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Slowing U.S. Economic Recovery & The Environmental Biotech Industry

Date: 25.8.2010 

In late July, Federal Reserve Chairman Ben Bernanke testified before Congress concerning monetary policy actions and the general economic recovery in the United States.  In his testimony he stated the economic outlook in the U.S. is “unusually uncertain.”  This very dovish outlook from the Federal Reserve caused a wave of risk aversion to sweep throughout financial markets as investors faced the reality of a slowing U.S. economic recovery.

The U.S. recovery began to show signs of serious deterioration in early June when key economic indicators such as retail sales, consumer sentiment, employment figures, and housing numbers all began to fall far below market expectations.  In June, the economic slow-down seemed to be contained to the United States, but in July and early August it became evident that America was not alone.  The Bank of England began confirming very dovish outlook on the U.K. economy and China, the red-hot economic machine, even began to show signs of a slowing economy.

Now, in late mid-August 2010, two years after The Great Recession began, the economic outlook seems to be very uncertain.  This is not good for financial markets or for industries that are heavily dependent on venture capital investment for growth such as the environmental biotech industry.  The Nasdaq Biotech Index, which tracks companies across the industry, is pictured in the graph below.  Although price is virtually unchanged from the beginning of the year at 850, you can see that 2010 has been quite volatile with a strong run up above 950 in March before a precipitous decline in April, May, June, and July brought price down to a 2010 low of 781.

The economic story behind the rise and fall of the industry may give us a clue as to future price movement throughout the 2nd half of 2010 and into 2011.  Through the 1st quarter of 2010, biotech stocks rose very strong on the heels of an improving global economy.  During the 1st quarter of 2010, the Federal Reserve was very hawkish in its rhetoric and there were market rumors that the Fed would remove economic stimulus and accommodative measures in the 2nd half of 2010 due to an improving economic recovery.  The economic outlook in the United States was relatively strong.

But then in April, the sovereign default woes in the EuroZone began to wear on global markets as a sovereign default in Greece became a matter of time and currency trading became very volatile.  Suddenly, a strong bout of risk aversion swept through financial markets and biotech stocks got hit hard as investors pulled out of risky assets.  That is when the NBI began its precipitous decline to its 2010 low of 781.

Price has now rallied back to the 850 level, but the economic outlook remains very uncertain for the 2nd half of 2010.  Many economists are concerned that we have major troubles ahead.  The United States recovery is faltering badly at the moment, and there does not seem to be much hope for a quick exit from current struggles.  It seems that one of two scenarios will unfold in the 2nd half of 2010, both of which will most likely weigh on biotech stocks.

1.       The U.S. recovery will continue forward but very, very slowly.  This means there will be no double-dip recession, but growth will be very slow and venture capital will be scarce.

2.       The U.S. recovery will enter another recession as global fears rise and systemic risks such as EuroZone defaults or other major risks materialize.

Thus, the outlook is not strong for the 2nd half of 2010 for biotech stocks, but this could be a perfect buying opportunity.  The long-term fundamentals in the biotech industry are still very strong.  The aging baby boomers and the continued focus on environmentalism should combine to make environmental biotech stocks very attractive in the years to come.  Any temporary setbacks in the 2nd half of 2010 may offer longer-term investors the perfect opportunity to come and scoop up company shares at drastic discounts that may not be seen again.

Author: Jennifer Gorton


 

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