“The Next Stock to Crash”

By Travis Johnson, Stock Gumshoe, March 13, 2009

The Stansberry folks are predicting another collapse in a stock’s share price, and urging you to get on board with a short position (or, one imagines, a put option). The last time they urged an aggressive short position in their ads was with General Growth Properties, the mall REIT that they predicted would go bankrupt back in December.

GGP didn’t quite go bankrupt, at least, not yet, but they were certainly right about the continuing decline — the shares were at about $1.80 when they predicted imminent bankruptcy, and they’re down about 75% from there (47 cents, last time I checked).

So, this is from a different analyst, and a very different rationale … but perhaps worth a look?

The ad is for the FDA Report, which we’ve seen teased before from Stansberry & Associates — it’s a relatively expensive trading service that aims to profit by predicting results of clinical trials, or at least trading on probabilities around those trials. In the past the expert they trot out for this has been George Huang, so I assume that’s who still does these trading recommendations, but I didn’t see his name in this ad.

So what do they promise?

“On April 30th, a Seattle drug company will announce the results of a prostate cancer vaccine in the final stages of clinical testing…

“If successful… it would be the biggest cancer breakthrough to date….

The medical community is so excited about this event; mainstream news sources are already brimming with anticipation as the date draws near ….

Sounds like a “slam-dunk” situation, right?

“But what if I told you that there’s overwhelming evidence that this vaccine is going to fail on April 30th?

“In fact, what if I told you it’s already failed clinical trials once before – a little-known fact about this “miracle” cure.

“But that’s not all… What if I told you that these clinical trials are so severely flawed, there’s no way patients participating in them will show positive results?

“On top of that, what if I said the FDA has never, ever approved this type of drug before? It other words, this class of drug has a 100% FAILURE rate.

“Look, there’s lots of uncertainty in the markets right now, but I believe—as strongly as I have believed anything in my financial career—that the FDA WILL NOT approve this new vaccine. ”

So that’s the setup — a drug that they tell us is expected by everyone to be a big winner, but their secret analysis has revealed that it will fail. [I’d argue that they’re overstating the market’s positive sentiment about this drug, but that’s neither here nor there.]

And they tell us they’ve got a special way for you to bet against the drug, thereby tripling your money (or more) when the bad results come out in April.

There are several examples given to illustrate their ability to pick these “FDA losers” that will drop in share price — one of them is our old friend Electro-Optical Sciences (MELA), which was teased pretty heavily last year by some other newsletters …

“Several months ago, a company called Electro-Optical Sciences (MELA) began developing a device to better screen for skin cancer. Anticipation of the trial results pushed the stock to almost $10. Again, investors got excited… but our Ph.D. knew the device would never make it past the FDA. Sure enough, he made a quick 60% profit.”

MELA shareholders might dispute the “would never make it past the FDA” bit — it hasn’t yet, and it has been delayed, but many folks still appear to be optimistic (and since this is an external medical device/tool, not a drug, the approval process would usually be expected to be quite a bit less onerous). Undoubtedly, though, the huge ramp up in the share price last year created a nice opportunity for short term gains for short sellers.

And the examples really pile up — they make the point that 80-90% of new drugs fail in the clinical trial process, which is true, and that the industry is built around a “boom or bust” mentality that means companies try to develop as many potential compounds as possible so that one of them might become a blockbuster and pay for the failures of the others.

All certainly valid points, though we should note that most drugs fail pretty early in the approval process, when expectations are often fairly low — if they make it through to Phase III trials the odds of approval are certainly far higher than 10%. (That’s a kind of survivorship bias — sort of like the life expectancy boost you get when you’re older. A boy born in 2004 was exp