February 4, 2011 / 6:48 PM / 8 years ago

Analysis: The FDA casino and the high rollers of health funds

WASHINGTON/NEW YORK (Reuters) - Speculating on whether a drug will get approval in Washington is difficult enough. With the regulator sometimes rejecting advice from its own consultants, the risk can go off the charts.

Just ask several prominent hedge funds and other investors burned by gambling that Orexigen Therapeutics Inc’s weight-loss medicine would soon reach the U.S. market.

Even though an advisory panel urged U.S. Food and Drug Administration approval, the agency rejected Orexigen’s drug this week and demanded a costly new study that could take years. The company’s shares plunged 70 percent.

That is a much steeper hit to absorb than a disappointing earnings result. Healthcare company Johnson & Johnson, for example, slipped just 2.4 percent when it reported sluggish fourth-quarter sales and a tough outlook.

Among the big investors who might have lost millions on Orexigen were prominent hedge funds like Steven Cohen’s SAC Capital Advisors, which controlled 3.4 million shares as of January 28, according to the most recent regulatory filings with the U.S. Securities and Exchange Commission.

Big-name funds like Fidelity Investments, New Enterprise Associates (NEA), BNY Mellon Asset Management and the California Public Employees’ Retirement System had money in Orexigen at the end of last year, according to SEC filings and data collected by Thomson Reuters.

All of these investors declined to comment on their holdings, citing a policy of not discussing individual shares.

A drug approval decision can make or break a small company. The field is so competitive that hedge fund firms and other investors have spent millions to get better intelligence on when a medicine might reach the market.

Some hire physicians to advise them privately on how rich a drug company’s pipeline looks, a practice that has drawn regulatory scrutiny. Last year, the U.S. government charged a French doctor with providing a portfolio manager with secret information about a drug trial run by Human Genome Sciences Inc.

Other investors gauge a product’s future by watching advisory panels, the committees of outside doctors and other experts who give nonbinding recommendations that the FDA usually follows.

One Orexigen investor bailed out of the stock even before the panel voted in favor of the fund believing enough signals on the heart risk were there to warrant caution.

“I sold it because there was actually this heart condition (issue) ... I knew the FDA would be rough on heart risk,” said Serge Depatie, portfolio manager at Natcan Investment Management in Montreal.

Depatie, who runs the $17 million Altamira Health Sciences Fund, said he sold the stock in the $5 range, unwilling to risk money on a company without a deep pipeline of products to fall back on in case the FDA rejected the drug.

“The best analysts on the street have it wrong 50 percent of the time. The best analysts have far more PhD.’s than I do and much better networks than I do. I cover healthcare and other sectors and they cover five biotech companies. I mean, how can I beat them on the science,” he said..

In the end, making bets on how the FDA will decide, even after a panel’s endorsement, is never a sure thing.

“You can’t just go by the vote. You really have to go by the whole content, the dynamics of the panel,” said Fariba Ghodsian, chief investment officer for Dafna Capital Management, which invests in biotech and medical device companies and does not own Orexigen shares.

“FLAWED PRODUCT”

The advisory panel that reviewed Orexigen’s drug, Contrave, voted 13-7 to recommend approval, and the company’s shares doubled the next day. Shares of rival companies Vivus Inc and Arena Pharmaceuticals Inc also rose on hopes for the entire field of obesity drug development.

(For a graphic on how shares of diet drug developers reacted to key decisions, click on r.reuters.com/hyg87r)

But many of the FDA panelists, including some who voted in favor of the drug, had voiced doubts about Contrave. One called it “a very flawed product.”

Still, it is rare for the FDA to make a decision so different from the panel’s recommendation. “That’s what was really shocking,” said Brian Jacobsen, chief portfolio strategist for Wells Fargo Funds Management.

It turned out a key vote was one asking if Orexigen should run a trial of heart risks before or after the drug’s approval. The committee voted 11-8 the study could wait until after the medicine reached the market, a view the FDA rejected.

“Eleven to eight is not exactly a landslide,” said Ira Loss, an analyst with Washington Analysis, noting the FDA is more skeptical of close votes.

An FDA ruling at odds with a panel vote remains an exception, but a few other drugs were shot down in recent years despite committee endorsements.

Last May, the agency refused to approve InterMune Inc’s lung drug pirfenidone without a new clinical trial proving the medicine worked. An advisory panel had voted 9-3 in favor of the drug.

Johnson & Johnson and Bayer have failed to win U.S. clearance for anticoagulant drug Xarelto, which is sold in Europe. An FDA panel in March 2009 supported the drug in a 15-2 vote but cited concerns about possible liver damage and bleeding.

In 2008, the FDA ruled against a unanimous panel recommendation to approve Bridion, an anesthesia-reversal drug from Schering-Plough, now a part of Merck & Co.

“Over the last of couple years, there has been a gradual erosion of the value of advisory committee recommendations,” Loss said.

Members of advisory panels include doctors who are specialists in a relevant field and can read complex data while giving a practicing physician’s view. Others are statistical experts. A consumer representative and sometimes a patient representative also are included.

For Contrave, the FDA also brought in a few cardiologists to provide input on the big question about heart risks. Company studies showed a slight rise in blood pressure and pulse rates with Contrave versus a placebo.

The FDA said it does not calculate how often the agency follows panel recommendations. “We value the advisory committee process and the input we receive. At the end of the day, the decision is made by FDA,” agency spokeswoman Karen Riley said.

Michael Becker, senior partner at biotech advisory firm MD Becker Partners, said Orexigen’s trouble reflected a tough climate for diet drugs. Past weight-loss medicines were pulled from the market over side effects. The FDA looks closely at new candidates because they are expected to be widely used.

“Weight-loss products are a minefield for both investors and for drug approvals. These products have to be squeaky clean in order to pass muster with the FDA,” he said.

Also, investors can never know all the information available to the FDA, Wells Fargo’s Jacobsen said. The review process for new medicines is “opaque” and fraught with “a number of wild cards,” he said.

“I never try to assume FDA is going to do what I think they will do,” he said.

Reporting by Lisa Richwine and Daniel Bases; Additional reporting by Svea Herbst-Bayliss in Boston; Editing by Phil Berlowitz

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