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Alzheimer’s Bonds

I wrote a couple of years ago about Andrew Lo of MIT, and his idea for securitization of drug discovery. For those of you who aren’t financial engineers, that means raising funds by issuing securities (bonds and the like), and that’s something that (as far as I know) has never been used to fund any specific drug development project.
Now Pharmalot has an update in an interview with Lo (who’s recently published a paper on the idea in Science Translational Medicine). In particular, he’s talking about issuing “Alzheimer’s bonds”, to pick a disease with no real therapies, a huge need for something, and gigantic cost barriers to finding something. Lo’s concerned that the risks are too high for any one company to take on (and Eli Lilly might agree with him eventually), and wants to have some sort of public/private partnership floating the bonds.

We would create a fund that issues bonds. But if the private sector isn’t incentivized on its own, maybe the public sector can be incentivized to participate along with some members of the private sector. I will explain. But let’s look at the costs for a moment. The direct cost of treating the disease – never mind home care and lost wages – to Medicare and Medicaid for 2014 is estimated at $150 billion. We did a calculation and asked ourselves what kind of rate of return can we expect? We came up with $38.4 billion over 13 years. . .
. . .Originally, I thought it could come from the private sector. We’d create a fund – a mega fund of private investors, such as hedge funds, pension, various institutional investors. The question we asked ourselves is will they get a decent rate of return over a 13-year period? The answer, which is based on a best guess, given the risks of development and 64 projects, and we believed the answer was ‘no.’ It wouldn’t be like cancer or orphan diseases. It’s just not going to work. I come from that world. I talked to funds, philanthropists, medical experts. We did a reality check to see if we were off base. And it sounded like it would be difficult to create a fund to develop real drugs and still give investors a reasonable rate of return – 15% to 20%.

He’s now going around to organizations like the Alzheimer’s Association to see if there’s some interest in giving this a try. I think that it’s going to be a hard sell, but I’d actually like to see it happen. The difficulty is that there’s no way to do this just a little bit to see if it works: you have to do it on a large scale to have any hope of success at all, and it’s a big leap. In fact, the situation reminds one of. . .the situation with any given Alzheimer’s drug idea. The clinical course of the disease, as we understand it now, does not give you any options other than a big, long, expensive path through the clinic (which is why it’s the perfect example of an area where all the risk is concentrated on the expensive late stages). Lo is in the position of trying to address the go-big-or-go-home problem of Alzheimer’s research with a remedy that requires investors to go big or go home.
The hope is that you could learn enough along the way to change the risk equation in media res. There’s an old science fiction story by A. E. van Vogt, “Far Centaurus”, which featured (among other things – van Vogt stories generally had several kitchen sinks included) a multidecade suspended-animation expedition to Alpha Centauri. The crew arrive there to find the planets already covered with human-populated cities, settled by the faster-than-light spaceships that were invented in the interim. We don’t need FTL to fix Alzheimer’s (fortunately), but there could be advances that would speed up the later parts of Lo’s fund. But will this particular expedition ever launch?

24 comments on “Alzheimer’s Bonds”

  1. SteveM says:

    Lo dances around where he wants to go with this idea – which is the standard Crony Capitalist scam of the “public-private partnership”. I.e., any returns go to the Cronies while risk is socialized, (i.e., the government eats the loses.)
    Nobody is going to buy bonds from an entity that has a high probability of failure, so they have to be guaranteed. By whom? Why the government of course.
    It actually may be a good idea to set up national medical research labs like the Department of Energy’s National Lab network. Come up with a way to make them semi-efficient and then out-license any useful products through an auction or something with the money going back to the government.
    The point is whether it’s Solyndra or college loans or home mortgages or Alzheimer’s research, if the Cronies propose a public-private partnership that they are personally wired into, Uncle Sam should watch its wallet.

  2. supplement joe says:

    #1 – “Uncle Sam should watch its wallet”? Who is going to watch Uncle Sam? Lo’s idea is right out of Lenin’s book on central planning. Lo is not advocating a Manhattan Project approach, rather a way for the academic researchers to direct and control vast sums that will ensure only that they continue to direct and control vast sums for generations to come. Alzheimers is the cover story. Sorry if this sounds cynical, Lo may not be, but right now it is all about money and politics swindling this country and whenever I hear the Big Project bandied about I see only cronies and the government out for themselves. Since the “settled science” of global warming, science is no longer the domain of the altruistic, if it ever was.

  3. SteveM says:

    Re: #2 supplement joe
    Right, we’re on the same page. The thing is that Lo never comes out and states what he really wants. Instead it’s, “He’s now going around to organizations like the Alzheimer’s Association to see if there’s some interest in giving this a try.”
    As if those associations have a hundred Billion laying around to buy his bonds. Nope, that’s just the set-up. He floats the idea to gin up awareness and then segues to the government when he can’t come up with genuinely private funding. (Which he never counted on in the first place.)
    The master of this Crony tactic is Elon Musk. Musk plays the visionary with someone else’s money. His businesses are largely attached to the government trough. SpaceX is no more “private enterprise” building rockets for the FedGov than Lockheed Martin and other Merchants of Death are building weapons systems for the same customer.
    Don’t get me wrong, I have nothing against the underlying technologies whether batteries or electric vehicles or medical research. Some great science there. I’m just against the Cronies that live parasitically large on Joe and Jane Taxpayer’s precious dimes.

  4. John Wayne says:

    My concern about ideas like this is in the execution. Once you assemble a huge fund with a specific purpose, how do you start? Whose ideas get pursued? How high should the bar be? Who do you hire? Who do you not hire (CRO’s)? How do you pick projects? etc.
    How you start, and what philosophy you use while setting up the organization, will determine it’s success. The folks at the Gates Foundation could be ideal consultants to ask about organizational structure and goals.

  5. Helical Investor says:

    Commented in Pharmalot blog.

    What an effort like this will require is a tax law change. The creation of a new security with a combination of a equity ownership of the research results (with a payoff should the equity be acquired) coupled with the current tax deduction of a charitable donation. A new kind of security that could help ‘select’ foundations raise private funds for high risk research endeavors. A bond or an equity investment in risky research doesn’t allow the tax write-off, not right away anyway. The government would have to be very selective about what areas of public need could be financed in this way, but I think we’d all agree Alzheimer’s research should qualify.
    Zz

  6. Helical Investor says:

    Commented in Pharmalot blog.

    What an effort like this will require is a tax law change. The creation of a new security with a combination of a equity ownership of the research results (with a payoff should the equity be acquired) coupled with the current tax deduction of a charitable donation. A new kind of security that could help ‘select’ foundations raise private funds for high risk research endeavors. A bond or an equity investment in risky research doesn’t allow the tax write-off, not right away anyway. The government would have to be very selective about what areas of public need could be financed in this way, but I think we’d all agree Alzheimer’s research should qualify.
    Zz

  7. Anonymous says:

    I don’t see the problem with a public private partnership in which the government guarantees the bonds. If you read the paper, Lo shows that in existing funding models, a real AD disease modifying treatment won’t benefit investors. The real beneficiaries are the US government in the form of Medicare and Medicaid. If the cost of all AD is 150 billion per year to the US government and rising, why wouldn’t it be beneficial to guarantee 34 billion in bonds? Or else just pony up the entire 34 billion and fund the whole thing from start to finish. Obviously the government doesn’t have the capability to go through the entire drug discovery process from start to finish. Which is why Lo’s scheme makes at least some sort of sense.

  8. cliffintokyo says:

    The traditional US approach (e.g. as for HIV) is for the pres to adopt a disease as a special case, then the gov quietly gets on with funding the basic research (e.g. at NIH), and finally pharma industry comes in at the appropriate time to develop and market new therapies. (Much simplified version of course).
    I believe this strategy is more likely to succeed with the big issues, like HIV and Alzheimer’s, than trying to set up collaborations with involvement from the beginning of investors who expect returns.
    I suspect that the proverb ‘patience is a virtue’ is anathema to VCs.

  9. Sam Adams The Dog says:

    Sounds like Kickstarter for rich adults….

  10. red says:

    If I ever rule the world, I will bring all drug companies under state control. Maybe I am completely wrong, but I can’t accept the fact that people have to pay for drugs so that they can live healthier lives. It’s cruel and not humane.

  11. Bernard Munos says:

    There is one critical issue that is not settled yet. That is: can risk be mitigated by going big; or does risk scale with the size of the portfolio? Andy’s proposal assumes that the former is true, which agrees with portfolio theory. But portfolio theory has not worked well in drug R&D — to put it mildly. One can construct a very realistic argument that, given the probability distributions that underpin drug R&D, the bigger the portfolio, the bigger the risk. As in investor, or a policymaker, I would want this argument to be settled before committing many billions. Just the prudent thing to do, as the optimal R&D strategy is quite different, depending upon which is true.

  12. Anonymous says:

    I think the portfolio strategy works in drug discovery. It’s the basis of VC funding in high risk fields like biotech where you invest in many companies with the expectation that most fail but the winners pay off handsomely. It’s basic diversification and works in multiple fields from investing to having kids. You do have a point and the question is whether a portfolio strategy works for one singular disease state. It might be that the state of technology isn’t up to the point where a solution will be found no matter how much money you throw at it.

  13. Anonymous says:

    I think the portfolio strategy works in drug discovery. It’s the basis of VC funding in high risk fields like biotech where you invest in many companies with the expectation that most fail but the winners pay off handsomely. It’s basic diversification and works in multiple fields from investing to having kids. You do have a point and the question is whether a portfolio strategy works for one singular disease state. It might be that the state of technology isn’t up to the point where a solution will be found no matter how much money you throw at it.

  14. Anonymous says:

    @#11 It seems like a good idea but when the government budgets need to be axed here or there for a couple of years then everyone is going to be without new drugs.

  15. Casual Observer says:

    So he wants to raise tens of billions of dollars to make a portfolio of investments in drug development …
    Isn’t that just starting a large pharma company?
    I’m baffled at why Lo and others think there’s anything even slightly new here.

  16. Anonymous says:

    The point of the paper is that the capital needed is so high and when you factor in the risk and the return percentage that no private venture would ever fund such a project. So it’s not really like starting a large company since no one in the world of private sector would ever go for it.
    The only party that benefits and has the capacity to accept such a risk is the US government which has to shoulder the burden of caring for long term AD patients. So it makes sense for there to be a public private partnership.
    There was also some math thrown in there.

  17. Anon says:

    The reason bonds are not issued to fund drug discovery is that drug discovery is inherently too risky for a bond-like investment.
    If you have a 1 in 10 chance of a 2000% return the coupon payment for a bond like that would have to be huge with a very high probability of default.
    Unless you mislead bondholders I seriously doubt that any of them would be interested in that kind of risk. You don’t buy bonds for this reason.
    If you want “securitization” you buy a number of biotech stocks or an index like the IBB. I think the only reason Wall St. likes securitization is to make assets seem less risky than they really are.

  18. Lyle Langley says:

    @14, Anonymous…
    Kind of like what happens when the pharma industry needs to tighten its budgets and deems R&D not important? Or, how M&A activity has really driven all of that R&D growth and drug production? I don’t see anything being too much worse than what it is now (and looks to be going in the future).

  19. MDACC GS says:

    A huge part of this is the [heavy] correlation between confidential information and ROI. The more you competition doesn’t know, the more you stand to make from your product. If it’s goverment backed and citizen funded, how do you skirt around the FOIA and everyone knowing your data?
    Broadly, I’m not comfortable with the idea that Alzheimer’s will appear on the commodities exchange one day. Do we really want this being trading just like oil futures? If anything we need to speak about and keep WallStreet out of science. I mean…look at how much they’ve helped pharma and the sciences over the last decade.

  20. Proteus says:

    Markowitz would be the first to say portfolio theory is only going to work with enough uncorrelated assets. Considering the challenges of science in general, and specifically the tunnel vision/dogma(a Beta) that has been persistent in AD field, it is a stretch to say that the entire industry can provide 10 assets uncorrelated with regard to moa/target (idiosyncratic risk). Granted my med-chem is knowledge should be punishable, but there is no f-‘n way a portfolio of 50 different g-Secretase/BACE, inhibitors and/or a-Beta vaccines offers any diversification of the technical risk. The generation of each additional ‘novel’ asset is amazingly expensive and time consuming. What works for financial assets doesn’t necessarily work for science. Market don’t always solve the “correct” problem. Many serious serious unmet needs in our industry are-and will be-NPV negative no matter what, at least within the timeframe that our financial markets typically value (

  21. Alex says:

    I saw Andy talk about this last winter. He’s also done work on the securitization or sale of existing biomedical product revenue streams. There’s no hocus pocus here, just the interconversion between future (sometimes risky) income streams and current lump sums (and vice versa). This actually works very well when the bundled assets are fairly well understood, and are not highly correlated. But biomedical projects are rarely well understood, and by focusing on a particular disease area he probably wipes out some (all?) diversification advantages.
    A few other observations: (1) The securitization he talks about includes low and medium risk bond tranches, along with a big *equity* tranche that gets completely wiped out if the whole thing fails (or gets a big payoff if it works). (2) The bond tranches (guaranteed or not) aren’t as big an issue as you might think (the bond holders get interest payments for quite a while, even as the enterprise is failing), the equity tranche is the problem. Who realistically is going to buy that tranche without knowing what actual projects the money will be invested in? (3) There are real agency and incentive alignment problems with a funding mechanism that puts unknown payoffs far into the future, and has no downside to the fund administrators.

  22. Anonymous says:

    @1: “whenever I hear the Big Project bandied about I see only cronies and the government out for themselves. Since the “settled science” of global warming, science is no longer the domain of the altruistic”.
    And who would you suggest pays for all this altruistic science? Yourself? It seems ironic, but you sound like a scientist “out for himself”.

  23. ananymous says:

    @10- and exactly how many live-saving drugs did centralized regimes produce?
    While it appears to go against altruism that we have to pay for health solutions, if there is no incentive for drug developers to assume the risks inherent with the endeavor, there won’t be any innovative medicines. And while everyone are reminded of how much new medicine costs, the price decrease substantially forever once it’s off patent.

  24. Kaleberg says:

    A better approach would be to raise taxes on the wealthy and corporations and use that money to fund more Alzheimer’s research. Wealthy individuals and corporations, such as health insurers, might augment this money with charitable contributions. The payoff would be two-fold in that the government could tax the profits from any successful treatment and save money on long term Alzheimer’s care.
    This is probably a political non-starter. Someone recently proposed funding higher education by having the government pay for a student’s tuition, then being able to charge that student a higher tax rate to pay back the government. We used to do that by paying the student’s tuition and then taxing the student’s higher income at a higher marginal rate. Like the former Soviet Union, we seem unable to do things simply, but rather have to rig up complex mechanisms to satisfy ideological imperatives.

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