Without doubt, one of the strongest stories in the biotech space over recent months has been Arrowhead Pharmaceuticals Inc (NASDAQ:ARWR). Shares have powered well over 100% higher thus far in 2019 as the company establishes itself as perhaps the leading growth story in the highly lucrative HBV space. The stock was also added to the S&P 600 Index of small caps in May and recently secured fast-track status for ARO-AAT, which is an RNAi therapeutic now in phase 2/3 development and evaluation targeting AATD liver disease.
Last but certainly not least, the company’s deal with JNJ’s Janssen has already led to an initial $25 million milestone payment, and will likely produce another payment in the near-future in a relationship that has already introduced acquisition premium into the ARWR tape.
Arrowhead Pharmaceuticals Inc (NASDAQ:ARWR) earned its first milestone payment from Janssen back in April when dosing began for a triple combo trial for chronic Hep B infection utilizing ARO-HBV in both single ascending and multiple ascending dosing. This is really the start of the story for this drug.
There are an estimated 400 million cases of chronic HBV infection worldwide, and ARO-HBV would be the only curative treatment on the market if it is developed successfully from here. So, it would clearly be a blockbuster drug with enormous market potential.
In other words, there are plenty of catalysts to point out as perfectly reasonable explanations for the stock’s strong performance. That’s why we are interested in a quarter-end downgrade that hit the stock on Friday from Cantor Fitzgerald (taking ARWR from Overweight to Neutral at Cantor).
Devil’s Advocate?
The market is clearly pricing in achievement of the Phase 2 dosing milestone and the second $25 million payment. But it really is after that point that the ARWR story becomes most interesting. Janssen is the drug R&D arm of Johnson & Johnson (JNJ) and it has a long history of takeovers following strategic partnerships where developmental milestones progress successfully.
But there is just as rich a history of stories falling apart in late phase 2 research – just ask Geron (GERN) investors. Perhaps the downgrade was driven by a sense that the best case scenario has already been priced into shares of ARWR?
Our first sense is a relatively emphatic “No” to that question given the leverage that the company would have if Phase 2 milestones track well in the next stage of evaluation. Arrowhead’s approach to delivery is a unique IP asset, the company has a very strong balance sheet, with cash and cash equivalents far exceeding current liabilities ($161.6M against $101.8M), and also partnered up with Amgen (AMGN), all of which should serve to stack leverage on ARWR’s side of the bargaining table in negotiations with the extremely deep pockets of JNJ across the table should it come to that.
More likely, a downgrade like the one we saw on Friday is getting attention because it had a strong impact on price, and not the other way around. From a technical perspective, the pattern is what technician’s call a “bull trap”, given that the stock closed prior day action at the highs of a fresh breakout. That would likely have pulled in new long money, and kicked out old short money, right into the close on Thursday. The downgrade ahead of the Friday open may have triggered a rapid reversal of those same orders.
That said, in the big picture, important tops are almost never driven by analyst changes when the driving factor in that change is valuation and market sentiment related to past catalysts, as it was here, as opposed to some material new insight into the likely path of future catalysts.
But it’s a perfect way to spur a buyable shakeout in a trending move.
Whether or not you want to further build in a narrative around some conspiracy idea about analyst ratings being used to help underwater shorts cover positions into quarter-end is a choose-your-own-adventure story as far as we’re concerned. Markets are full of interesting dynamics underneath the tape. But the long-term potential for an advantageous exit on a takeout here will likely come down eventual phase 2 ARO-HBV data.
And, at this point, the stock has not remotely priced in that potential.
