Orexigen Therapeutics is a drug discovery company that focuses on drugs that combat obesity. The company has a new anti-obesity drug called Contrave, who’s Phase III trial results were expected to be released on June 10. The drug was initially denied by the FDA in Feb 2011 and the firm was told that the application would be reconsidered if it sponsored a clinical trial that demonstrated that obese patients taking it did not have a significantly higher risk of suffering heart attack, stroke, or cardiovascular death than those who did not take the drug. The company then resubmitted the drug application in Dec 2013 after a successful light study and the company announced it had reached the interim target laid out by the FDA.
Other anti-obesity drugs such as VVUS have not done well. However, I was optimistic on Contrave because Takeda, a large Japanese drug company, had entered into a partnership with OREX. Under the terms of the agreement, Orexigen will receive an upfront cash payment of $50 million from Takeda, and Takeda will obtain an exclusive marketing right from Orexigen in the United States, Mexico and Canada while Orexigen retains the right to co-promote with Takeda in the United States. Orexigen will be eligible to receive payments of over $1 billion upon achieving certain regulatory and sales-based milestones. Assuming Contrave is commercialized, Takeda will pay tiered double-digit royalty payments on net sales in the Territory. Under the terms of the agreement, Orexigen and Takeda will work together on ongoing development of the product, with Orexigen leading pre-approval activities, and Takeda leading post-approval activities. The parties will share in the costs of any future development of the product. Also, my friend Shawn had a friend who worked at Takeda who said that Takeda was very optimistic on the future prospects of Contrave, though he wasn’t working directly on this project.
One risk factor, highlighted by my friend David who is a pharmaceutical analyst at Morningstar, is that the FDA has been very strict on obesity products. Since they believe there are safer alternatives (diet and exercise) that do not have potentially bad side effects, they aren’t very willing to accept a drug that has some potential side effects. Its not like oncology, where they are way looser. They allow a decent amount of side effects since for most of these products there are no other treatment options.
Given the information available, I felt that it was more likely that the FDA would approve Contrave and anticipated that the stock price would pop once the approval was announced.
On 20 May, I purchased 1 call option at a strike of $6 and with expiration on Jul 18 2014 for a premium of $0.65/contract. This was actually a mistake, and I meant to purchase 10 contracts.
On 28 May, I purchased 10 call options at a strike of $7 and with expiration on Jul 18 2014 for a premium of $0.70/contract. I didn’t purchase the same contract that I had previously, because the stock had already gone up by ~$0.30 and the option by ~50%.
On 29 May, I purchased 10 call options at a strike of $8 and with expiration on Jul 18 2014 for a premium of $0.40/contract and a further 10 contracts on 10 June for $0.50/contract.
Before the FDA ruling, I had a position that had cost me of about $1600. I chose to go for a long call option position because I would cap my loss of the position at the total premiums paid, while I would have extra leverage in the event that the stock popped. While the implied volatility for the options were high, I felt that the stock would move by more than the strike+premium paid price, if my thesis played out. I felt that this strategy would provide the best risk-reward.
Unfortunately, the FDA decided to postpone their decision. Upon announcement of the news, the stock fell from $6.81 to $5.81. The options that I purchased all fell precipitously in value, with the higher strikes falling more than those at lower strikes. I would have lost less percentage-wise if I had bought the stock, but I lost less absolutely, since I would have had to buy more stock in order to achieve a meaningful return. Thus, I still stand by my decision to purchase long call options.
I’ll probably play the situation again in the same way when the FDA’s decision date comes again.