Saturday Screen: In Biotech, Bigger Isn't Always Better

Over the past year, health care funds have either focused on biotechnology stocks or they've been left behind.

In TSC's inaugural Saturday Screen, we're comparing the returns of the category's top-performing health care funds over the past year with the returns of the category's biggest funds. In most cases, they're not the same.

Smaller health care funds are more nimble and have been better able to invest in the biotech stocks that have led the sector. Bigger funds tend to rely on more liquid large-cap pharmaceutical stocks as core holdings. And that's made all the difference in the past year.

The American Stock Exchange Biotechnology Index was up 191% for the past year, through Thursday's close. The American Stock Exchange Pharmaceutical Index, hampered by fears that lawmakers would cap drug prices, lost 8% over the same period. Consequently, most biotech funds are the haves, and big health funds are the have-nots.

Biggest One-Year Returns Funds with biotech exposure have left their health care peers in the dust
Fund	1-yr. return	Assets ($ millions)
(FBDIX Quote)Franklin Biotechnology Discovery*	190.9%	$500
(RYOIX Quote)Rydex Biotechnology	176.6	247.6
(FBIOX Quote)Fidelity Select Biotechnology	135.8	2,838.3
(MFMAX Quote)Monument Medical Sciences	132.5	835.1
(JAGLX Quote)Janus Global Life Sciences	122.7	601.1
Average Health Care Fund	45.9	735.3
*Closed to new investors. Returns through Feb. 10. Source: Morningstar, Lipper.

Biggest Funds Over the past year bigger hasn't been better, unless you're Fidelity Select Biotech
Fund	1-yr. return	Assets ($ millions)
(VGHCX Quote)Vanguard Health Care	18%	$10,726
(PHSTX Quote)Putnam Health Sciences	13.5	5,048
(FBIOX Quote)Fidelity Select Biotechnology	135.8	2,838.3
(FSPHX Quote)Fidelity Select Health Care	6.2	2,493.9
(FHLSX Quote)Invesco Health Sciences	17.3	1,518.5
Average Health Care Fund	45.9	735.3
Returns through Feb. 10. Source: Morningstar, Lipper.

(FBIOX Quote)Fidelity Select Biotechnology appears to be an exception to the smaller-is-better rule. The graybeard of biotech funds is 14 years old, and its assets were nearing $3 billion at the end of last month. The big fund is able to invest in the sector by blending small-caps with larger biotech firms like Biogen(BGEN Quote) and Amgen(AMGN Quote) for added liquidity, says Emily Hall, a Morningstar anayst who covers health care funds. The fund has the best five-year average annual return in the sector: 39.4%.

So, should you ignore the sluggish biggies and pile into a biotech fund like Fidelity's or the quasi-indexed market-timing vehicle (RYOIX Quote)Rydex Biotechnology? (We'd throw in Franklin Biotech Discovery, but the fund closed to new investors Tuesday.)

As usual, your risk tolerance is a key consideration. Sure, biotechs are sizzling now, but they can go way, way out of favor too.

"If you're going to invest in a biotech fund, you have to be prepared for high volatility and long stretches of underperformance," says Morningstar's Hall.

Biotechs have typically been a small and shaky bet for most health funds. The stocks are small and highly speculative. Like dot-coms, investors usually buy shares before the company has a bona fide product or profits. Fidelity Select Biotech, probably the best biotech fund, has previously lost nearly 20% in a quarter. The fund also changes managers frequently, like most Fidelity Select funds. While this typically hasn't punctured performance, current manager Yolanda McGettigan took the reins just two weeks ago.

Most health care funds, particularly sizable ones like (VGHCX Quote)Vanguard Health Care, spread their assets among big pharmaceuticals, medical device makers, health care delivery and biotech stocks. That can lead to decent growth with less volatility. The Vanguard fund is the largest sector fund in the nation, but its 27.9% average annual return over the past five years ranks third in the category, and manager Edward Owens had only one down year in the 1990s -- a paltry 1.6% loss in 1992.

The Vanguard fund has closed in the past. It's currently open, but carries a steep $10,000 minimum. Morningstar's Hall suggests you take a look at (JAGLX Quote)Janus Global Life Sciences, an aggressive fund that still spreads its assets around the sector.