Episode 4: Can a Hedge Funder Cut Prescription Drug Costs?

Guan Yang (0:00)

The Odd Lots podcast is brought to you by ExxonMobil. Energy lives here.

Joe Weisenthal (0:08)

Hello and welcome to the newest edition of Odd Lots. I'm Joe Weisenthal, managing editor of Bloomberg Markets and the co-host of What You Miss.

Tracy Alloway (0:15)

And I'm Tracy Alloway, executive editor of Bloomberg Markets.

Joe Weisenthal (0:18)

So Tracy, there's been a lot in the news lately about controversies in the pharmaceutical industry. It seems like there's another story basically every day.

There were politicians blasting the proposed merger of Pfizer and Allergan, basically accusing it of just being a way for Pfizer to pay less in US taxes. And then of course, there's a lot surrounding specifically pharmaceutical pricing.

Tracy Alloway (0:41)

Right, we've seen a lot of controversies in pharma stocks recently, especially in companies like Turing and Valiant. In Valiant's case, we've actually seen the stock collapse recently on fears that the company is using this sort of shadowy network of pharmacies to get its brand name drugs prescribed more than cheaper generics.

Joe Weisenthal (1:00)

Right, and then of course, there was Turing, which got a ton of attention because it had this young CEO, Martin Shkreli, who came off very brash. And also, he acquired a drug and then said he was going to immediately increase the price 50-fold.

So obviously, that outraged a ton of people.

Tracy Alloway (1:19)

Indeed, so given all these controversies, there have obviously been a lot of calls for investigations and changes to the laws in order to go after pharmaceutical prices. But what if the solution isn't with politicians, but with hedge funds?

Joe Weisenthal (1:34)

Go on.

Tracy Alloway (1:34)

Today, we'll be talking about a hedge fund with a very interesting strategy. Short pharma companies and then challenge their patents in the courts in the hope that if their patents get overturned, the stocks eventually collapse.

Joe Weisenthal (1:46)

So the basic idea is someone shorts a stock, a pharmaceutical stock, shorting means you bet against the stock, you profit if it goes down, and then the way you make money on that in this case is you go to court and say, hey, this company, their drug is based on this patent, but we think the patent is invalid. And if the court rules that it is invalid, then presumably that company's business takes a huge hit and shorting the company works out really well.

Tracy Alloway (2:12)

That's right. Sort of like a reverse patent troll.

Joe Weisenthal (2:15)

Yeah, exactly. So that sounds like a really weird strategy, but it also seems incredibly clever. So on that note, we want to bring in our guest, Guan Yang, Guan recently completed his PhD in finance and his research both finance and intellectual property. He has his doctorate from NYU.

So he's perfect to discuss this fascinating trade where we have a marriage of finance and intellectual property. Guan is also a Bloomberg View contributor.

So Guan, did we describe the strategy correct? Is that basically what the idea is?

Guan Yang (2:45)

Yeah, that is basically what it is. It used to be that when you wanted to challenge a patent, you could only do it, you could really only do it in court and you could only do it if someone had actually sued you for infringing that patent.

There wasn't really an effective way for a third party, like a hedge fund manager, to come in and say, I think this patent is invalid, even though we're all in some way affected by high drug prices due to patents.

Joe Weisenthal (3:10)

So up until recently, let's say out there I saw that some company had a patent and I thought it wasn't a valid patent. And we'll get to that in a second, what that means, a valid patent. But up until recently, I couldn't have just gone and sued. I would have needed to be more directly tied to it.

Guan Yang (3:25)

Yeah, there was, there were a couple of administrative procedures you could have done at the patent office, but they weren't very effective. They were expensive and slow, and that wasn't a great way to challenge patents.

Joe Weisenthal (3:37)

And so what changed? What was the law that enabled anyone to theoretically challenge a patent?

Guan Yang (3:43)

So there was something called the America Invents Act of 2012 It's also called the Leahy-Smith Act.

And it was a patent reform package that introduced something called Interpartis Review. And it's basically a way to challenge a patent, even if you're not directly involved in infringing it or have been sued by the patent donor.

Tracy Alloway (4:03)

Was the idea behind it to go after patent trolls, which people have been complaining about for a long time?