Betting on biotechnology: biotech funds may have a bright future ahead in spite of a down 2001. (Mutual Fund Focus).

If you're looking over mutual funds that focus on biotechnology stocks, you may find yourself in a quandary. On the one hand, the industry is loaded with potential, having dazzled the stock market in 2000. On the other hand, biotech stocks had a rough 2001. So what comes next?

There's no arguing the medical and stock market miracles that the biotech sector has pulled off over the last few years. We're familiar with some of the fantastic accomplishments companies in the field seem to announce daily. Their work on gene splicing has developed treatments and medications for everything from AIDS to cancer. Until 2001, shares of biotech companies had been equally awe-inspiring. Biotech has been a monster of a group over the past few years. According to the Standard & Poor's Biotechnology Index, a group of 22 biotech stocks generated a gain of 104.6% for investors in 1999 and another 17.1% in 2000. That same index has averaged annual gains of 28.0% for the five-year period ending December 14, 2001.

In the market turmoil throughout 2001, biotech shares were down. As of December 14, 2001, the group was off 9.8%, better than the -13.4% the S&P 500 Index had managed since the beginning of 2001. In fact, of the 15 biotech mutual funds Morningstar tracks, not one produced a positive total return last year. Most had losses of 20% or more in 2001; some had lost as much as 30%.

Still, Standard & Poor's biotechnology analyst Frank DiLorenzo says there are a few reasons why biotech might be headed back to a future of impressive stock market performance. For one, the industry has a pipeline of new products working their way to the healthcare market. "There are some significant new treatments that have recently been approved by the Food and Drug Administration, and they should start to make a real impact on biotech companies' bottom lines," says DiLorenzo, who expects treatments approved between now and 2003 to generate peak annual sales of $10 billion by the end of the decade. That figure is more than the revenue that the top 10 publicly traded biotech firms generated in 2000--including industry players such as, Amgen (Nasdaq: AMGN), Genentech (NYSE: DNA), Chiron (Nasdaq: CHIR), Biogen (Nasdaq: BGEN), and Immunex (Nasdaq: IMNX). It's little wonder that Wall Street pegs the biotech sector to grow earnings to a robust 35.3% annually over the next five years, according to Zacks Investment Research in Chicago.

Keep in mind, too, that there has recently been plenty of wheeling and dealing in biotech. This past December alone, Amgen made an $18 million bid for Immunex, while Millenium Pharmaceuticals, MedImmune, and Cephalon all submitted buyout bids for other companies in the sector. DiLorenzo says investors should expect more of the same. That's good news for biotechnology mutual funds. Takeovers, after all, boost the value of the shares of the companies being bought.

To help you get in on what could be a hot trend in the years ahead, we tapped Morningstar's database of funds to dig up biotech portfolios. One caveat: the Chicago-based company's stats show 15 funds out on the market, most of which are less than 3-years-old.

Our chart shows five funds meeting that criterion, including two-Fidelity Select Biotech (FBIOX) and Monterey Murphy New World Biotech (MNWBX), which have made it past the five-year milestone. Banking the biotech bunch according to the three-year total returns shows one clear winner, the Dresdner RCM Biotechnology Fund (DRBNX). Dresdner's portfolio leads with an average return of 48.6% for the three years ending November 30, 2001. The fund's management has typically steered its portfolio toward medium- and small-sized companies in the group, a strategy that can yield quick, large gains, but at the same time opens investors to greater risks. An interesting alternative to Dresdner is the granddad of the biotech mutual fund group, the Fidelity Select Biotech Fund. Fidelity's offering has been on the market since 1985 and tends to carry shares of larger industry names such as Amgen and Immunex. It has averaged an annual total return of almost 29% for the three years ending November 30, 2001.

Top 5 Biotech Mutual Funds

                                                 1-Year     3-Year
                                                  Ann.       Ann.
                                                 Total      Total
Fund Name (Ticker)                     YTD *    Return *   Return *

Dresdner RCM Biotechnology N
  (DRBNX)                             -22.76%   -15.01%     48.6%

Rydex Biotechnology Adv (RYOAX)       -12.47     -7.44      37.66

Franklin Biotech Discover A (FBDIX)   -21.73    -17.00      33.9

Fidelity Sel Biotechnology (FBIOX)    -20.01    -13.82      28.96

Monterey Murphy New World Biotech
  (MNWBX)                             -16.25    -10.99      19.16

                                5-Year
                                Ann.                      Minimum
                                Total      Toll-Free      Initial
Fund Name (Ticker)             Return *      Number      Investment

Dresdner RCM Biotechnology N
  (DRBNX)                        N/A      800-726-7240    $ 5,000

Rydex Biotechnology Adv
  (RYOAX)                        N/A      800-820-0888     10,000

Franklin Biotech Discover A
  (FBDIX)                        N/A      800-342-5236      1,000

Fidelity Sel Biotechnology
  (FBIOX)                       24.65     800-544-8888      2,500

Monterey Murphy New World
  Biotech (MNWBX)                8.5      800-628-9403      1,000

* AS OF NOVEMBER 30, 2001

SOURCE: MORNINGSTAR INC.