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Biotech Stock Mailbag: Research Backs Shorting Micro-Cap Cancer Drug Stocks

BOSTON ( TheStreet) -- Before I get to your emails and tweets, I'd like to open this week's Biotech Stock Mailbag with a story of how rebutting a suggestion that cancer drug trial investigators are engaging in illegal insider trading led me to conclude that shorting micro-cap cancer drug stocks is a potentially profitable investment strategy.

A group of researchers led by health economist Allan Detsky of Toronto's Mount Sinai Hospital published an academic paper this week suggesting that doctors entrusted with conducting late-stage cancer drug clinical trials are using advanced knowledge of the results of these pivotal studies to engage in illegal insider trading.

That's an explosive charge. Unfortunately, the evidence Detsky and his collaborators gathered to back the insider-trading allegation is weak and can't be taken seriously.

Have some isolated cases of illegal insider trading ever taken place among clinical trial investigators? Sure, no one is naive enough to believe otherwise. But are cancer-drug researchers everywhere picking up the phone and whispering to hedge fund managers on Wall Street, "Blue Horseshoe likes Cancer Drug Stock XYZ"?

Absolutely not. Moreover, the data contained in Detsky's paper not only disprove his allegation but suggest more strongly that investors can make money by shorting micro-cap cancer drug stocks.

Detsky and his colleagues, publishing in this week's Journal of the National Cancer Institute (JNCI), identified 59 phase III clinical trials of cancer drugs conducted over the past 10 years. They then analyzed the stock prices of the companies developing these cancer drugs, honing in specifically on the trading activity of the stocks 120 days before and after the public announcement of study results.

"The mean stock price for the 120 trading days before a phase III clinical trial announcement increased by 13.7% for companies that reported positive trials and decreased by 0.7% for companies that reported negative trials," Detsky and his group found. They conclude:

"One explanation for the trends we observed in this study is insider trading, in which individuals make stock trades based on information before results are public or by providing nonpublic information to others who act on it in a similar fashion… Over the past 40 years, there has been increased participation by physicians and scientists in all aspects of the pharmaceutical industry. It has been estimated that up to one in 10 American physicians has a consulting relationship with entities that provide investment advice. These relationships may result in the disclosure of nonpublic confidential information regarding ongoing clinical trials."

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