Mega-Hedge Fund Focusing on the Life Sciences

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The $3+ billion Baker Brothers Advisors equity portfolio, managed by brothers Julian and Felix Baker, focuses almost exclusively on life science companies with a small to medium sized market capitalization.

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Insider Monkey looks at 450 of the world’s most elite hedge fund managers and our research has shown that over time their picks routinely outperform. Let’s look at the top five picks held by the fabulous Baker Brothers.

The best bets of the bunch

At number one is Pharmacyclics (NASDAQ: PCYC). Of the 450 hedge funds tracked by Insider Monkey, Baker Brothers Advisors is the largest holder of the biopharmaceutical company with 11.4 million shares. Pharmacyclics’ flagship cancer treatment drug, Resonate, just enrolled its fifth test patient, triggering a fourth $50 million milestone payment obligation from Jenssen Biotech, part of Johnson & Johnson and a partner in the drug’s development. The stock also benefits from a price/earnings ratio of only 56x versus the industry average of almost twice that. For 4Q 2012, revenue soared 1,908% while R&D costs were only 35% of revenue.

Second of the top five is Seattle Genetics (NASDAQ: SGEN), and again Baker Bros is the largest holder with 19.3 million shares. Since 2010, Baker Bros has increased its holdings in Seattle Genetics by 10.5%, keeping it within the top five positions during that time. Seattle Genetics recently hit a new 52-week high of $37.60 following the news that research in its antibody drug conjugate technology was presented at the 104th annual meeting of the American Association for Cancer Research. But what does this mean for investors? It means that Seattle Genetics, with an encouraging product pipeline, innovative technologies and potential revenue growth, has excellent potential for profitability. Although earnings are still in the red, revenues more than doubled in 4Q 2012 and the percentage of sales devoted to cost of goods sold fell 50%.

Number three is Synageva Biopharma (NASDAQ: GEVA), and once again Baker is the largest holder among hedge funds we track. Synageva Biopharma reported better than expected earnings, but the burden of R&D costs (which soared 137%) resulted in a shrinking bottom line and a loss of $0.62 per share from -$0.43 per share for 3Q. As a result, the price/sales ratio for Synageva is 75.2x against the industry average of a much more moderate 7.3x.

Fourth on the list is Genomic Health (NASDAQ: GHDX), which develops and commercializes genomic-based clinical laboratory services that analyze the underlying biology of cancer. 4Q earnings fell to $0.06 per share from $0.11 the prior quarter and -$0.08 the same quarter last year. Fortunately, R&D costs were contained, which allowed the company’s bottom line to improve to $8.2 million from $7.8 million from last year. On May 8, the company will present the results from its positive clinical validation study of its biopsy–based OncotypeDX prostate cancer test (Genomic Prostate Score, or GPS) to the American Urological Association. The presentation is the latest step in Genomic Health’s efforts to launch GPS by the end of the second quarter of 2013. GPS is pivotal to the future growth of Genomic Health, as it will help in the development of future tests.

Rounding out this “fab five” is…

Incyte (NASDAQ: INCY), a biopharmaceutical company whose main product is Jakafi for the treatment myelofibrosis, a bone marrow disorder that can lead to severe anemia and an enlarged spleen and liver. But because myelofibrosis does not affect many individuals, the revenue potential for Incyte is limited. Although Incyte has had very strong revenue growth and earnings were positive for 4Q (+$0.14 versus -$0.44 for the year ago period), the limited revenue potential for its product is worth paying attention to.

Although it’s hard for non-life science enthusiasts to understand what many of these companies actually do, it’s not hard to understand why Baker Brothers Advisors has packed its portfolio with some of the most innovative, groundbreaking companies in the biopharmaceutical industry. And the large stake it’s placed in each company is a vote of confidence from a hedge fund that obviously knows its healthcare stocks, from Incyte's top line growth, to the general attractiveness of Genomic, Synageva, Seattle Genetics, and Pharmacyclics.

This article is written by Amy Thielen and edited by Jake Mann. Insider Monkey's Editor-in-Chief is Meena Krishnamsetty. They don't own shares in any of the stocks mentioned in this article.  The Motley Fool recommends Genomic Health. The Motley Fool owns shares of Genomic Health. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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