Beyond Approval: The Hidden Risk in Biotech Stocks

The legendary fund manager Peter Lynch advised investors to “invest in what you know.” It’s a principle that holds true—if you work in an industry and understand its inner workings, that knowledge can help you identify opportunities—or at least recognize risks that others might overlook.

When I asked myself what I know well enough to inform investment decisions, one area stood out among others: drug development. It’s something I’ve worked closely with, and I’m familiar with both the hurdles and milestones a company must face to bring a new medicine to market.

Drug development is a lengthy, uncertain process. A promising molecule goes through years of preclinical work before even reaching human studies. From there, it faces Phase 1 trials (typically on healthy volunteers), then Phase 2 and 3 trials involving patients, each stage testing safety and efficacy in larger populations. Ultimately, it’s up to regulators like the FDA or EMA to assess whether the submitted data is robust enough to approve the drug for market. The full timeline from discovery to approval typically spans 8–10 years—shorter only in rare, high-priority cases.

This isn’t a path with high odds. Most investigational drugs never make it past early-stage clinical studies, and even those that reach Phase 3 still face non-negligible risk. Approval is a milestone, but not the finish line.

Applying Domain knowledge to public markets

Instead of sticking to large-cap pharma—which I also hold—I was curious to see whether my experience could help me navigate a few investments in clinical-stage biotech. I focused only on publicly listed companies, where financial transparency is regulated, and selected a few companies in late-stage development (i.e., with Phase 3 trials underway and regulatory submissions expected in the near term). My thinking was simple: if I’m going to take a risk, I prefer a defined timeline.

I applied a few filters to narrow the list:

• Low share price (under $10) to limit downside.
• Analyst-estimated LOA (likelihood of approval) above average.
• A clearly differentiated product—either first-in-class, potentially practice-changing, or addressing a condition that remains underserved despite medical need.
• A defined unmet need, ideally in an area like psychiatry or certain chronic diseases such as COPD that haven’t seen meaningful innovation in years.

I ultimately picked five companies. Let me walk you through what happened with one of them—not because it was uniquely promising, but because it illustrates some recurring patterns.

By early 2024, the company received FDA approval for its lead asset. The drug was the first of its kind in a patient population with limited treatment options and had shown strong Phase 3 data. The stock rallied after approval, rising more than 50% from my entry price. But things changed quickly. A few months later, the price fell sharply—dropping well below my original purchase point.

What went wrong? A combination of factors:

• Q4 revenues missed expectations, sparking doubts about market uptake.
• The sudden departure of a senior executive raised concerns about execution.
• A shareholder class action followed, with allegations the company had overhyped commercial potential.

This last point is especially relevant. Post-approval risks are generally well-known to seasoned investors—market adoption, pricing pressures, and execution hurdles are part of the landscape. But in this case, the emergence of a shareholder class action suggests that some

of those risks may not have been fully reflected in public communications. That adds an additional layer of opacity, making what is normally an understood challenge feel genuinely hidden.

Takeaways from the field

While there’s no single formula for how to navigate these situations, a few reflections stuck with me:

• Approval ≠ Success.

  The market doesn’t reward approval alone. Even a breakthrough product can fall short without strong launch execution, compelling differentiation, and payer support.

• Post-approval is a different game.

  For retail investors—who lack controlling influence or the operational leverage of institutional backers or strategic partners—it may be wiser to invest only up to the regulatory milestone. After approval, the risks shift from science to execution. At that point, valuations may already reflect best-case scenarios, leaving less room for upside and more room for disappointment.

• Single-product companies face an uphill climb.

  Without diversified revenue or operational infrastructure, any misstep post-launch can have an outsized impact. Even minor delays or downgrades can trigger steep declines.

• It’s still a high-volatility play.

  Unlike tech, where scaling can be fast and network effects compound, biotech often progresses in steps. Even post-approval, the story rarely unfolds in a straight line.

I continue to hold two of the five companies I invested in, including the one described above. But going forward, I’m less inclined to invest in individual biotech names beyond regulatory approval. Despite applying a structured approach to manage risk, the level of commercial uncertainty remains high—and it’s a type of risk I’m more reluctant to take after this experience.