Options Traders Look For Q2 Upside In Biotech Stocks

Biotech was a sector that was a notable laggard in Q1 with the Nasdaq Biotech Sector ETF (IBB) down nearly 24% and S&P Biotech Sector ETF (XBI) down nearly 28%. The relative weakness started to show in Q3 and Q4 of 2015 after the group became overheated after an 80% rally from April 2014 to July 2015. There were multiple reasons for the recent weakness in biotech stocks, including stretched valuations and more notably the concerns with political pressures weighing on drug prices as much of the revenue growth in the sector was being derived from increases in prices rather than volume.

As Q1 came to an end, option traders were very active buying upside calls in both the IBB and XBI. Seasonality may also play a role, the XBI has a 5 year average Q2 return of 8.75% and was higher each year, and the IBB similar with a Q2 average return of 7.35% higher each of the last 5 years.

The Nasdaq Biotech Sector ETF (IBB) traded 2X daily call volume with notable trades including a buyer of 4,500 May $280 calls at $4.70 to $4.72 (a $2M+ trade) and a late afternoon buyer of 2,000 April 8th (W) $265 calls at $3.60. The IV Skew in the IBB is steeply sloped, so OTM calls are cheap as IV has also pulled back around 30% since peaking in early February. The top 10 weighted stock positions in the IBB account for around 57.5% of the fund and in order include Gilead (GILD), Amgen (AMGN), Celgene (CELG), Biogen (BIIB), Regeneron (REGN), Illumina (ILMN), Mylan (MYL), Alexion (ALXN), Vertex (VRTX), and Incyte (INCY). The IBB clearly has a larger focus on the large cap biotech stocks.

The S&P Biotech Sector ETF (XBI) traded 2X daily call volume with notable trades including an early morning purchase of 10,000 April $52.50 calls at $1.20 ($1.2M trade). XBI also hit my scans on 3-29 when a large purchase of 7,500 June $50 calls paid $3.70 to $3.90 (a $2.8M+ trade). The IV Skew in the XBI remains fairly steep, so upside calls are a cheap way to play a move. The top 10 weighted positions in the XBI account for around 21% of the fund and include ACADIA (ACAD), Intercept (ICPT), Novavax (NVAX), Neurocrine (NBIX), Amgen (AMGN), Ligand (LGND), Gilead (GILD), Baxalta (BXLT), Seattle Genetics (SGEN) and Ionis (IONS). The XBI clearly is a more diversified ETF and focused more on the small and mid-cap names.

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The three main drivers for Biotech stocks are Drug Data, Earnings, and M&A. We are entering earnings season for Q1 results and also plenty of drug data catalysts. The more interesting potential driver for the sector is a return of M&A which has been fairly quiet the last few quarters. The action today came after reports last night that Medivation (MDVN) is fending off multiple acquirers that send the shares 25% higher today and many Analysts suggesting there is still 35-40% upside in shares in a takeover scenario.

Citibank released a nice report on 3-29 regarding the potential for Biotech Sector M&A to see a revival in the next 1-3 quarters and made some good points. As valuations have reset there is a high probability that we will see more deals considering the Pharma/Biotech leaders have a lot of cash and have openly admitted to wanting to do deals. Among 18 large Pharma/Biotech companies there is $180B in cash, a historic high. Merck (MRK), Novartis (NVS), GlaxoSmithKline (GSK), Eli Lilly (LLY), AstraZeneca (AZN), J&J (JNJ), Amgen (AMGN), Gilead (GILD), Biogen (BIIB), Sanofi (SNY) and Celgene (CELG) have all indicated interest in deals in their latest presentations. Citi notes that although in the past acquirers have focused on Phase 3 and approved products, the focus now may turn more towards earlier stage pipelines.

Citi listed 16 names it covers and divided into the likelihood of M&A within 12-18 months, the greater probability names included biotech stocks like MDVN, ADRX, OPHT, PBYI, PTLA, RARE, RLYP and VSAR. Moderate probability names were ANTH, LOXO, MGNX, and MRTX while lower probability names were ATRA, CMRX, KERX, and MIRN.

biotech stocks sectorThe Biotech sector is also highly shorted, of the names in the $500M to $15B market cap range there are 21 with more than 20% of the float short, and 38 names with 10-20% of the float short.

One fantastic tool for seeking out names that are higher probability for upside moves is monitoring options activity and the IV Skew, a combination that signaled for me to buy Medivation (MDVN) on 3-17 and then again on 3-29 as well as catch a 50% move in Alder (ALDR). I am going to break down the current IV Skews (April through June) below and then follow-up on any of the names where there has been large or unusual options positioning.

Inverted Skew (Bullish): MDVN, RDUS, PBYI, SRPT, PACB



Steeply Sloped Skew (Bearish): XON, CBPO, LGND, HALO, MCRB, XLRN, CHRS, TBPH

Notable trade highlights in a few of the above mentioned names:

Medivation (MDVN): On 3/8 a trader bought 6,000 April $43 calls to open at $2.14, on 3/17 the June $34 puts sold to open 3,000X at $3.30, and on 3/18 the April $41 calls were bought 4,500X at $1.12 to open. After the news broke on 3/30 trades on 3/31 included a buyer of 1,000 May $55 calls at $1.85, and buyers in June $45, $50 and $60 calls as well as September $46 calls.

Radius Health (RDUS): On 3/24 a trader bought 3,000 April $35 calls at $2.75, and on 3/9 a trader opened 500 October $40/$35 bull risk reversals at a $0.60 credit.

Sarepta (SRPT): On 3/9 a trader bought 3,000 May $17 calls to open $4.20, and on 2/3 the May $20 calls were bought 4,500X to open at $3.

BioMarin Pharma (BMRN): On 3/15 a trader bought 1,250 January 2017 $125 calls to open $2.80 to $3.10. On 2/29 the May $85 calls were bought 500X at $8.50 and 850 May $100 calls bought $3.10 to $3.20.

Seattle Genetics (SGEN): On 3/11 the June $38/$30 bull risk reversal opened 1,000X at a $0.30 credit.

Anacor Pharma (ANAC): ANAC has large positions in January 2017, on 2/29 the $45 puts were sold to open 3,800X while the $75/$110 call spreads were bought 3,800X. ANAC had previously seen a similar spread on 1-26 sell 2,000 January 2017 $65 puts to buy 2,000 of the $90/$150 call spreads and on 2-19 a trader sold 2,000 January 2017 $60 puts to open to buy 2,000 of the $75/$120 call spreads.

Ophthotech (OPHT): A trader bought 1,000 June $55 calls to open $5.90 to $6 on 2-19 and on 3-31 a trader opened 500 June $55/$45 bull risk reversals at a $4.45 credit.

Lexicon Pharma (LXRX): On 2/24 a trader bought 1,050 October $12.50 calls at $2.25 to open.

Dynavax Tech (DVAX): On 3/31 a trader bought 5,000 October $22/$28 call spreads financed with the sale of 5,000 July $15 puts, net $0.85 debit per spread.

Agios Pharma (AGIO): On 3/16 a trader bought 1,000 August $60 calls to open at $2.25 to $2.50.

Alnylam Pharma (ALNY): On 3/2 a trader bought 1,200 September $100 calls at $2.55 to $2.65 to open.

ImmunoGen (IMGN): On 3/1 a trader bought 2,500 July $9 calls at $1.05 to open.

Tesaro (TSRO): On 3/30 a trader bought 1,000 May $50 calls to open at $2.30 to $2.35.


Biotech will surely be a sector to watch as it also ties in closely with risk-on environments, and there are sure to be ample trading opportunities. Once we see the first M&A deal announced, I have a feeling there will be plenty more to follow.

Thanks for reading.


Twitter: @OptionsHawk

Author has a position in MDVN at the time of publication. Any opinions expressed herein are solely those of the author, and do not in any way represent the views or opinions of any other person or entity.