- L2’s SMA strategies work to ensure that our investors
- participate in the returns of the underlying asset class via the application of robust risk controls that are benchmark aware and
- benefit from our evidence-based and systematic process to maintain significant active share to drive excess returns.
- By the end of December 2023, the smash-hit success of weight loss drugs sold by Novo Nordisk (Wegovy) and Eli Lilly (Mounjaro) was well understood, and the stocks had already risen to levels that made their risk-reward seem strained.
- Despite this, our risk engines observed that LLY was too important to the benchmark for the strategy to have no exposure to the stock, and we have carried a minor underweight since the start of the year.
- 2024 has been a testament to the importance of risk engines and benchmark awareness, as investors sent LLY — already expensive in 2023 — vertical. The stock has risen over 60% year-to-date as enthusiasm for their weight loss drug has turned into a frenzy.
- As of this writing, LLY has a $900bn enterprise value (EV), $25bn in net debt, trades at over 100x trailing and 60x forward earnings, and nearly 22x sales. These unforgiving valuations have made LLY the sixth largest stock in the Russell 1000 Growth ETF.
- At that valuation, the market believes that no other pharmaceutical stock will invent new and better drugs, despite extraordinary investments being made by some of LLY’s most ferocious competitors.
- Our Large Cap Growth ranking engine indicated that nearly 90% of other stocks in the Russell 1000 Growth benchmark offer better risk-reward than Lilly due to the rampant euphoria baked into its price.
As a result of these simple facts, the L2 team has decided it is prudent to trim the strategy’s exposure in LLY down to ~2% vs. the benchmark weight of ~2.6%. On an absolute basis, investors in the L2 Growth Strategy will continue to benefit from Lilly should the mania go farther. Contrarily, if politicians, insurance companies, and the general electorate should decide to impose price cuts on these drugs – something we think possible – investors in our strategy will suffer less damage than holders of the broad index.
Longer-term however, the L2 team believes capitalism continues its ruthless work of bringing competition to areas of excess profits. In that light, we are using the proceeds of our Lilly sale to add to our position in Merck (MRK). Over the following six pages we offer a detailed study of the current weight-loss drug environment and competitive analysis of other drugs in development.
While Merck does have a very potent competitor in the pipeline, our decision to buy more Merck does not stem from our belief that we can pick who will dethrone LLY’s weight loss drug. Rather, we can see that there are an abundance of new products coming from numerous well-funded competitors – both private and public alike. Merck being but one of them.
MRK also ranks far higher in our ranking engine than LLY. Valued at only 16x trailing and 13x forward earnings and ~4x sales, investors’ expectations for Merck are like ankle-high hurdles compared to those of Eli Lilly.
Large Cap Growth Trade Commentary – October 2024
Table of contents
When
October 10, 2024
Who
Matthew Malgari
Dr. Sanjeev Bhojraj
Nathan Przybylo
Summary Rationale:
As a result of these simple facts, the L2 team has decided it is prudent to trim the strategy’s exposure in LLY down to ~2% vs. the benchmark weight of ~2.6%. On an absolute basis, investors in the L2 Growth Strategy will continue to benefit from Lilly should the mania go farther. Contrarily, if politicians, insurance companies, and the general electorate should decide to impose price cuts on these drugs – something we think possible – investors in our strategy will suffer less damage than holders of the broad index.
Longer-term however, the L2 team believes capitalism continues its ruthless work of bringing competition to areas of excess profits. In that light, we are using the proceeds of our Lilly sale to add to our position in Merck (MRK). Over the following six pages we offer a detailed study of the current weight-loss drug environment and competitive analysis of other drugs in development.
While Merck does have a very potent competitor in the pipeline, our decision to buy more Merck does not stem from our belief that we can pick who will dethrone LLY’s weight loss drug. Rather, we can see that there are an abundance of new products coming from numerous well-funded competitors – both private and public alike. Merck being but one of them.
MRK also ranks far higher in our ranking engine than LLY. Valued at only 16x trailing and 13x forward earnings and ~4x sales, investors’ expectations for Merck are like ankle-high hurdles compared to those of Eli Lilly.