Friday, June 15, 2012

Vertex Pharma (VRTX) - Gapping Bio-tech Hits Annual High in Vol

--- OVERVIEW ---
VRTX is trading $56.50, up small with IV30™ unched. The LIVEVOL® Pro Summary is below.


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Vertex Pharmaceuticals Incorporated (Vertex) is in the business of discovering, developing, manufacturing and commercializing small molecule drugs for the treatment of serious diseases. The Company’s two products are INCIVEK (telaprevir), which is approved for the treatment of patients with genotype 1 hepatitis C virus (HCV), infection, and KALYDECO (ivacaftor), which is approved in the United States for the treatment of patients six years of age and older with cystic fibrosis (CF), who have at least one copy of the G551D mutation in the cystic fibrosis transmembrane conductance regulator (CFTR), gene.

This is a vol note in a bio-tech that is hitting a new annual high in IV30™ and which has had a propensity to gap of late.

--- ANALYSIS ---
Let's start with the Charts Tab (six months), below. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).

On the stock side, we can see the two dramatic gaps of late. First the abrupt rise on 5-7-2012 from $37.41 to $58.12 or 55.3%. In fact, the next day the stock rallied to $64.16, making the two day move a 71.5% rise. Here's the news that drove that move:

Vertex shares rose $20.71, or 55%, to $58.12 Monday following the announcement that two drugs -- the experimental VX-809 and currently marketed Kalydeco -- significantly improved lung function in patients with the most common genetic mutation causing cystic fibrosis.

Monday's data were the result of an interim analysis from a relatively small number of patients, so without a doubt, caution is warranted and the benefit seen from the two-drug therapy must be maintained and confirmed in a larger, pivotal trial.

But if we assume VX-809 and Kalydeco are approved, the revenue numbers for Vertex get very, very large: $4 billion a year in peak cystic fibrosis sales is a floor. The company's cystic fibrosis drugs could top $6-7 billion a year, easily.

There are 70,000 cystic fibrosis patients worldwide and Vertex could easily treat more than half of them with Kalydeco or the VX-809-Kalydeco combination. A year of Kalydeco therapy today costs $294,000 -- not uncommon for orphan disease pricing. Vertex may cut the price of the two-drug regimen but even if you assume $200,000 per year, the sales potential is enormous.

Vertex cystic fibrosis revenue of $6-7 billion year is equal to what Gilead generates in revenue every year from is antiviral product sales, mostly its dominant HIV drugs.

Source: TheStreet via Yahoo! Finance; Vertex Is the Next Gilead Sciences or Alexion, written by Adam Feuerstein.

Note the description of the results, "[...] the result of an interim analysis from a relatively small number of patients, so without a doubt, caution is warranted." But still, whoa to those numbers.

But then, on 5-29-2012 (just three weeks later), the stock gapped down from $64.85 to $57.80 or down 11%, and reached a day low of $50.00. The stock did rebound the next day to back over $60. The news that drove the drop is included below and is rather unbelievable (or at east odd).

What: Shares of drug developer Vertex Pharmaceuticals plunged as much as 23% Tuesday after overstating the clinical-trial response to its combination Kalydeco/VX-809 cystic fibrosis treatment.

So what: Vertex shares soared earlier this month after data suggested that the two-drug therapy was on the straight path to becoming a blockbuster, but management's mistake -- 35% of patients, not the previously stated 46%, showed improved lung function -- is naturally forcing investors to sober up a bit. While the revised data is still higher than Wall Street had initially expected, the "misinterpretation" of the initial results calls management's credibility into question.

Source: The Motley Fool via Yahoo! Finance; Why Vertex Shares Got Crushed, written by Brian D. Pacampara.

It's hard for me to fathom that line, "but management's mistake -- 35% of patients, not the previously stated 46%, showed improved lung function." What?...

In any case, the stock has found a sort of relative equilibrium in the $55 - $60 range, which is well above the mid $30 range from before the initial results.

The only note I'd make on the vol portion is that the implied is now at annual high. Or, said differently, risk as reflected by the option market is at an annual high.

Let's turn to the Skew tab to examine the month-to-month and line-by-line vols.

The thing that jumps out at me is simply how elevated the Jul options are to the back months. Simply stated, the option market reflects increased risk in the near-term relative to the mid-term. The skew shape is a bit flatter than "normal." In English, there is no real "handicapping" demonstrated by the options market -- the vol is elevated but neither upside nor downside is especially more likely.

--- SUMMARY --
Finally, let's look to the Options Tab for completeness.

Across the top we can see that Jul is priced to 72.44% while Oct is priced to 56.73%. It seems likely that "something" is coming soon. It'll be interesting to see what we can learn from that "something."

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