Dan Rasmussen & D.A. Wallach on Biotech’s Surge, China, IPOs, US Valuations & Japan | #617

What It Covers

Dan Rasmussen and D.A. Wallach return to discuss biotech's 50% surge since their last appearance, Rasmussen's year-long research paper on valuing unprofitable biotech companies, China's emergence as a biotech powerhouse capturing 30-40% of Big Pharma acquisitions, Japan's corporate governance transformation, and whether US equity valuations reflect a permanent regime change or cyclical peak.

Key Questions Answered

• •Biotech Value Metric: Traditional valuation factors fail in unprofitable biotech. Redefine value as market cap divided by research spending (not enterprise value, which penalizes cash reserves). A company spending $200 million on research with $200 million market cap is cheaper than one spending $5 million with the same valuation. This metric creates clear linear relationships with returns when combined with other factors.
• •Specialist Ownership Quality Signal: Define quality by measuring what percentage of holders are biotech specialists—funds owning over $100 million in biotech representing 50%+ of their portfolio. This typically identifies 15-20 firms at any time. High specialist ownership indicates rigorous scientific diligence, while zero specialist ownership flags potential frauds or low-quality science that couldn't convince informed investors to participate.
• •Peer Momentum Strategy: Direct momentum fails in biotech. Instead, map clinical trials from clinicaltrials.gov to equity data, classify research using the mesh tree taxonomy, create similarity scores between companies, then calculate momentum of similar firms. Oncology drug performance predicts other oncology stocks better than individual stock momentum, capturing sector-specific acquisition interest and scientific validation waves.
• •China Clinical Trial Cost Advantage: China now captures 30-40% of Big Pharma molecule acquisitions versus single digits five years ago. Early stage clinical trials cost significantly less in China with faster execution. US and European companies increasingly conduct first-in-human trials in China despite discovering molecules domestically. This represents a structural shift similar to China's rare earth strategy—dominating marginal value chain segments to eventually control entire industries.
• •Japan Corporate Governance Opportunity: Median Japanese company holds seven years of net income in balance sheet assets versus one year for US companies. Small cap value names often hold twenty years of net income in assets. With corporate governance reforms driving distributions and payout ratios at half US levels, Japan has substantial runway. Combined with returning inflation and nominal GDP growth, this creates multi-year tailwinds.
• •Deficit-Driven Profit Expansion: US corporate profits increased from 11 cents per dollar to 18 cents (14 cents inflation-adjusted) since COVID. Government deficits fund entitlements to high-propensity spenders who buy corporate products. Corporations invest less in capacity, distribute profits to wealthy shareholders with low spending propensity who recycle capital into equities. This creates alignment between poorest Americans needing entitlements and richest needing equity appreciation—both achieved through deficit expansion.