Trump Triggered a Rally in Drug Stocks. Why It Might Not Last.

A portrait of former President Ronald Reagan hung behind Donald Trump as the president spoke about drug pricing at the White House on Tuesday. (BRENDAN SMIALOWSKI/AFP via Getty Images)

Key Points

• A drug-pricing deal between Pfizer and the Trump administration led to a surge in pharmaceutical stocks, with the S&P 500 Pharmaceuticals index rising 4.3% on Tuesday and another 5.5% on Wednesday.
• The agreement with Pfizer, which includes lowering Medicaid drug prices and a three-year tariff break, is seen as a best-case scenario for the company.
• Despite the recent rally, uncertainty remains for the pharmaceutical sector due to challenges like patent expirations for companies such as Pfizer and Merck.

The drug-pricing deal Pfizer and the Trump administration unveiled Tuesday set off a surge in pharmaceuticals stocks that was still going strong on Wednesday. The question is whether it will last.

It has been a rough year for drug stocks. The S&P 500 Pharmaceuticals industry group index, which rose 4.3% on Tuesday, had been down 3.4% on the year as of the close of trading on Monday, while the S&P 500 was up 13%. It was up another 5.5% on Wednesday.

Wall Street is now debating what comes next. “The number one question from the Street, by far, is whether or not Pharma stocks will continue to climb on the back of yesterday’s” deal announcement, Mizuho healthcare equity strategist Jared Holz wrote in an email to investors an hour before Wednesday’s open.

For now, the answer seems to be yes. Pfizer was up 7.2% on Wednesday after rallying 6.8% on Tuesday. Merck gained 7.9%, also after a surge of 6.8% on Tuesday.

But there is plenty of uncertainty regarding the deals the administration is making with the drugmakers. Investors shouldn’t lose sight of the broader picture around many of these stocks, which is far from sunny.

Below are two arguments in favor of a drug-stock resurgence, and two arguments against.

A sweet deal for Pfizer

Perhaps most important, the agreement unveiled Tuesday appears to represent a best-case scenario for Pfizer, suggesting other companies don’t have much to worry about.

Trump has talked tough for months about his plans to force drugmakers to lower their prices to match those paid in other wealthy countries, and to impose big tariffs on drug imports. But the deal with Pfizer appears to clear both those worries in a way that will have minimal impact on its business.

While Pfizer agreed to lower the prices on most of the drugs it sells to Medicaid to match the prices paid in other nations, that isn’t a big concession for the company. It has relatively little exposure to the Medicaid market.

Pfizer also agreed to sell new drugs at the same price in the U.S. as in other wealthy countries. That is likely not much of a concession, either: Pfizer can still maintain high U.S. prices by setting high prices on new drugs it launches in Europe.

And while Pfizer said it would sell drugs straight to consumers at lower prices through a government website, those prices likely won’t be below the net prices Pfizer realizes on sales via normal channels. That means revenue isn’t likely to be hurt.

At the same time, the Trump administration agreed to give Pfizer a three-year break from any industry-specific drug tariffs, in return for a commitment to spend $70 billion on U.S. manufacturing infrastructure and R&D.

The president said Tuesday that other drugmakers are negotiating similar deals, and further announcements are expected in the coming weeks.

If “the White House is focused on a ‘win’ by its own terms – largely optics – and more accommodating on the shape that takes, and less focused on a rigid framework,” Cantor Fitzgerald analyst Carter Gould wrote on Tuesday, “that may allow companies to steer their agreements towards less painful focal points.”

A beaten-down sector

Adding to the positive case is that drug stocks have performed abysmally this year, leaving them room to climb before hitting the levels where they were trading before Trump began pushing on drug pricing. Merck shares, for example, were down around 9% this year as of Wednesday, even after two straight days of significant gains. Bristol Myers Squibb was down 15% on the year.

The sector has plenty of continuing troubles, but what was new this year was Trump administration’s focus on lowering U.S. drug prices. That could mean that with the concern over drug prices clearing, the stocks could keep rising.

“Much of the sector remains well off YTD highs… leaving plenty of room to catch up before confronting past resistance,” Cantor’s Gould wrote.

A sea of troubles

Now comes the case against a persistent pharma rally. The problem for the drug stocks is that even if the political challenges are removed, plenty of fundamental challenges remain. On that long list are patent cliffs for Pfizer, Bristol, and others; obesity-market turbulence for Eli Lilly and Novo Nordisk; and Medicare price negotiations, just to name a few.

Multiples are low across the drug industry, and the problems started long before Trump was re-elected in November. Take Pfizer, which analysts expect to see take a 13.3% revenue hit by 2030 as its patents expire, according to FactSet. Merck, meanwhile, is bracing for the expiration of the patents protecting the cancer blockbuster Keytruda, which accounts for roughly 40% of its revenue.

The reality is that many of the drugmakers face longstanding, structural problems. Investors may not come back until they can get much more comfortable about long-term earnings growth from the big names.

No magic bullet

And while the political clouds may have cleared for Pfizer, things could go differently for other drugmakers, particularly those with more exposure to Medicaid. A lot of discussion over the past 24 hours has focused on Gilead Sciences , which sells a significant share of its HIV drugs to the Medicaid market.

While other drugmaker stocks have climbed, Gilead dropped 1.4% on Tuesday, and was up 1% on Wednesday.

If the Pfizer deal is a narrow template that the other drugmakers will be forced to accept, it might not be ideal for each member of the large-cap biopharma group. Significant uncertainty remains, Trump’s moves are hard to predict, and it may be too early for the collective sigh of relief the healthcare sector appears to be taking.

Write to Josh Nathan-Kazis at josh.nathan-kazis@barrons.com