Building A Better Drug Portfolio: Merck & Co., Inc. (MRK), Pfizer Inc. (PFE), Amgen, Inc. (AMGN)

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When building a drug portfolio, most investors stick to pharmaceutical firms. Since these are generally the largest, most profitable options, it's easy to see why. However, not including a biotechnology company in the mix is a notable weakness in such an approach. While the biotech industry is filled with small, unprofitable companies, one stands out as a giant and it has a place in every drug portfolio.

Pharmaceutical vs Biotechnology

Drugs are an increasingly important aspect of everyday life. With the aging of the Baby Boomers, drug use is set to increase as a large population of future patients moves into their highest medical use years. Add to this the fact that using drugs to treat an illness, despite the often high cost of the drugs involved, can be cheaper than other options, and the trend toward increased drug use seems certain to continue for years to come.

Merck & Co., Inc. (NYSE:MRK)The next big drug, however, isn't going to show up out of thin air. That means that companies big and small are going to be looking for it. And there are plenty of ailments to target, as even relatively obscure illnesses can prove profitable niches in the drug space.

There are basically two approaches to finding new drugs. One approach, used by pharmaceutical companies, is to examine chemicals that can be beneficial. The other, used by biotechnology companies, examines naturally occurring biological substances as the basis of the research effort. While both are very similar in nature, requiring large up-front research efforts, clinical testing, and Food and Drug Administration approval, the actual processes involved are vastly different.

The pharmaceutical industry is much more mature than the biotech industry, playing host to some of the largest and most profitable companies around. The biotech industry, meanwhile, is often seen as the Wild West, where companies come and go, often at great cost to investors. However, biotechnology is going to be increasingly important in the future and not having some exposure to the industry would be a major mistake if you are building a drug portfolio.

A Solid Portfolio

Finding a good pharmaceutical company doesn't take a lot of time. Most of the major players are household names and two, Merck & Co., Inc. (NYSE:MRK) and Pfizer Inc. (NYSE:PFE), are members of the Dow 30. A third, more diversified drug company, Johnson & Johnson (NYSE:JNJ), is also a Dow member, though its business lineup includes consumer products and medical devices in addition to drugs.

Both Merck & Co., Inc. (NYSE:MRK) and  Pfizer Inc. (NYSE:PFE) would make great additions to a drug portfolio. Each are large participants with notable industry positions. In fact, Pfizer is the largest drug company in the world. Some of the shared strengths of these giants include massive research teams, effective sales forces, and the ability to expand via both internal efforts and mergers and acquisitions. As discovering new drugs becomes increasingly difficult, that last item has become increasingly important.

Johnson & Johnson, meanwhile, is something of a broader industry play, because of its medical device and consumer products divisions. In fact, it is a relatively late entrant into the drug space. That said, the company has a long history of shifting its business over time with acquisitions. The company's long-term success is very much tied to the successful execution of such transactions, large and small.

All three of these drug companies face similar threats today. The biggest is the fact that some of their most profitable drugs have already lost patent protection, or will find those protections lost in the near future. While each has a pipeline of new drug candidates, the massive profits of successful drugs can be very hard to replace. Still, any of the three would be a good addition to a drug focused portfolio or to provide drug exposure to a more diversified portfolio.

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