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Stock Strategist

Biotech Investing for the Long Haul

Three ways to separate long-term winners from stocks that fizzle.

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Many believe it takes guts to invest in biotechnology. Like any cutting-edge industry, huge potential upside mingles with potential disaster. Shares of Irish biotech  Elan (ELN) dropped 70% in one day last year after the company and its partner  Biogen-Idec (BIIB) removed their new drug Tysabri from the market due to possible lethal side effects. However, a quick glance at the 2005 performance of the Amex Biotechnology Index (BTK) shows that this basket of biotechs had an annual return north of 25%. How can individual investors tap into biotech's potential without being obligated to pounce on any bit of clinical data that dribbles out of a company?

Investor myopia makes the performance of many biotech stocks highly volatile. With a focus on short-term performance, investors regularly overreact to both positive and negative news, trading in and out of stocks in an attempt to get a big return when clinical trial results are announced. Here we suggest three key qualities to look for when selecting biotechs as long-term investments.

Karen Andersen does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.