Andrew Lo, economist, hedge fund manager and finance professor at MIT Sloan, plans to apply financial engineering, the sector he knows best, to the search for a cure for cancer.
Prof Lo and MIT colleagues, Jose-Maria Fernandez and Roger Stein, have proposed the creation of a $30bn “megafund” that would invest in
early-stage biomedical research and drug development. Investing in as many as 150 experimental compounds at one time increases the chances that a few of the ventures will succeed, and generate enough profit to make up for those that fail. Prof Lo recently talked to the FT about his idea.
Tell me about your personal experience with cancer.
Prof Lo: Cancer is the great equaliser. Everyone is affected by it either themselves or through loved ones. A few years ago, a childhood friend died of breast cancer at the age of 44. A couple of years ago Charles Harris, who donated my endowed chair, was diagnosed with colon cancer, and died 18 months later. My mother died of lung cancer last year. I felt helpless. As an economist, I thought, what can I do?
Describe the current state of funding for cancer research.
Prof Lo: Government funding [for biomedical research] is being cut, and despite
scientific breakthroughs, there is less money from the private sector going into cancer research. One reason is that the rates of return are pretty dismal. A back-of-the-envelope calculation is that the out-of-pocket costs for developing a cancer compound is $200m. The chances of success are about 5 per cent. That’s why the industry calculation to develop a drug is more like $1bn-$2bn. It’s understandable why no one wants to invest.
What was your epiphany for an oncology megafund?
Prof Lo: Different projects give you the kind of diversification that investors are looking for. Our idea is to invest in 150 projects at a time … [so] your chances of success are more than 99 per cent.
Why hasn’t this been done before?
Prof Lo: It has. A lot of other industries use these kinds of techniques for funding: real estate, consumer loans and student loans. Even the movie industry has megafunds to securitise rights.
Why do you propose using structured debt securities for the fund?
Prof Lo: Bond markets are much larger than equity markets and capable of providing the large amounts of capital needed to “de-risk” the drug development process. If you look at biomedical projects, it takes five to 10 years before you see anything.
Will the ‘more patient’ capital change the way the science is conducted?
Prof Lo: Yes. It would relieve the pressure of short-term performance milestones. In biotech and pharma companies, there is enormous pressure to achieve milestones. So they go for the low-hanging fruit – the “me too” drugs instead of the innovative pathways.
What’s the rate of return?
Prof Lo: We took two historical databases of hundreds of anti-cancer compounds assembled by Deloitte and the Tufts School of Medicine. We used back-of-the-envelope market assumptions. We found that if this fund had been launched with a fairly large amount of debt in two tranches, you’re looking at returns of about 7-11 per cent.
Enough to excite venture capitalists?
Prof Lo: Remember, that’s 7 per cent off of $15bn. But I take your point: VCs may not be interested. But institutional investors such as pension funds and sovereign wealth funds will be. It’s a good opportunity to diversify.
Investors will warm to the cause?
Prof Lo: Mention “social impact” and investors’ eyes glaze over. They associate social impact with lower returns. We’re trying to show that if you structure the fund this way, you can generate honest-to-goodness attractive returns. To get $30bn [to start the fund] we have to make money for people.
These simulations not only yielded attractive returns, they also implied that many new drugs would be successfully brought to market.