Biotech investors live for the binary event, when a single piece of news -- be it a trial result or an FDA decision -- can instantly double an investment. Take buyout candidate Theravance (NAS: THRX) , which recently popped 20% on news that GlaxoSmithKline (NYS: GSK) upped its stake in the small biotech to 27%.

But with the possibility of sudden riches comes big risks -- risks that new investors drawn to seemingly easy gains sometimes fail to grasp. Consider these three biotech bloodbaths from just this week a convenient reminder.

First up is the less-than-dynamic duo of Keryx Biopharmaceuticals (NAS: KERX) and AEterna Zentaris (NAS: AEZS) . Hopes were sky high that lead drug candidate perifosine would ace a phase 3 trial dubbed X-PECT focusing on a subset of the phase 2 trial's most receptive patients. I'm guessing investors in either biotech didn't X-PECT a 65% share-price drop, but that's what happened when perfosine couldn't meet its goal.


Perifosine's failure treating colorectal cancer hasn't doomed the drug to the waste bin -- yet. But the drug's phase 3 trial for multiple myeloma is in jeopardy as the management "carefully evaluates" it, citing recruitment difficulty. There was no word yet about its phase 2 trials treating several other cancers.

AVI BioPharma (NAS: AVII) , which saw a near 30% decline in its shares, is a slightly different animal. Its muscular dystrophy drug etepliersen worked at a biological level by increasing dystrophin-containing muscle fibers, but not where it mattered: helping patients walk. With AVI's expensive phase 3 trial on the horizon, only $40 million in the bank, and cash burn approaching $35 million over the past 12 months, investors sticking with this stock can probably look forward to dilution.

For investors holding on to an investment suddenly worth significantly less, there is a glimmer of hope. As usual, when a trial goes poorly, biotechs tend to focus on the positives. Both Keryx and AEterna touted other drugs in their pipelines. For Keryx, it's Zerenex in phase 3 trials, and for AEterna, its more robust pipeline includes AEZS-130 and AEZS 108 in phase 3 and phase 2 development. AVI management, gearing up for a phase 3 trial, is optimistic that over a longer regimen patients could see tangible results.

However, these companies live off hope, so don't just look at the sell-off and assume shares are cheap. Do your homework, understand the risks involved, and have a firm grasp on what you can afford to lose, if a binary event turns into a biotech bloodbath.

A better approach
Motley Fool co-founder David Gardner recently identified a small-cap health-care company that is poised for monster returns, without worrying about trial failures. To uncover this top pick today, take a look at our special free report, "Discover the Next Rule-Breaking Multibagger." Don't miss out on this limited-time offer and your opportunity to discover this game-changing company before the market does. Access your report -- it's totally free.

At the time this article was published David Williamson holds no position in any company mentioned. Check out his holdings and a short bio. Motley Fool newsletter services have recommended buying shares of GlaxoSmithKline. The Motley Fool has a disclosure policy. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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