Investors need to think about the pharmaceutical sector in a different way according to UBS, which means buy AstraZeneca (LON:AZN) and a downgrade for Shire (LON:SHP).
The conventional forecasting tool-box is broken says the Swiss broker and rather than forecast drug sales, investors should focus on four themes.
Exposure to oncology, a special case protected by legislation, medical urgency, innovation and complexity; Look for expensive new drugs superior to old expensive drugs they will displace; Avoid exposure to new drugs with high budget impact that is a risk of high access barriers.
And avoid therapy areas at risk of becoming crowded (such as severe asthma) where there is the risk of price-based auctions for patient volume.
Among UK-listed firms that means Astra Zeneca is buy, while GlaxoSmithKline (LON:GSK) and Shire are holds.
In the case of Astra, UBS believes too much emphasis is being placed on parts on the business that will lose pricing power rather than those that will retain it.
“AstraZeneca trying to reinvent itself; cannibalizing old lines of business to invest in oncology, where pricing power is likely sustainable.
“We think the next news on the reinvention, from the MYSTIC [head and neck cancer] trial in H2 2017, will likely suggest that things are working."
UBS expects a substantial stock move on the trial result and a re-rating thereafter, with earnings growth of 10% annually until 2023.
Even so, it has trimmed its price target to 5,000p from 5,480p.
Shire’s downgrade to hold, meanwhile, stems from UBS’s view that a tougher environment for expensive orphan drugs will constrain performance.
"Orphan drugs' rising aggregate budget impact is getting attention and investors should be cautious of drugs with high budget impact."
Global orphan drug sales in 2015 were US$102bn but some forecast them to hit US$217bn by 2020.
This incremental budget impact is triggering skirmishes on both sides of the Atlantic.
UBS’s new target price is 5,000p.
Shares of Shire today were 4,511p, down 1%, while Astra rose 2.6% to 4,141p.