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As an investor, I hate crowds. If a stock or sector that I like attracts a crowd, I know it is time to leave. As they say, the sheep are usually the buyers at the top.
Now, we need sheep to help drive prices of our holdings higher, but at some point it is time to jettison. Nothing goes up forever, and the best signal I have found over the years is to sell when the sheep are buying.
This year the sheep are being told to buy the biotechnology sector.
That advice may be a bit late in coming. 2008 was a disastrous year, but biotechnology did very well. It is that performance that is now attracting the sheep.
The advice is reinforced by big pharma getting involved in the game by paying big premiums for smaller biotechnology stocks.
I can understand the lure. A biotechnology stock can be very exciting to own, especially when the underlying company makes a discovery that can lead to drugs with massive markets.
It is that potential for growth and big profits that drives speculation. In a market where nothing else is generating profits, it's no wonder biotechnology stocks attract interest from the sheep.
That said, there is danger lurking.
When a sector appears to be the only option for investors, a red flag should immediately appear. That is not to say the sector will not work, but, rather, proceed cautiously.
When there are so many sheep buying there is little room for error.
What happens when a hot new drug fails to meet its potential? A stock can fall precipitously.
That is what is happening today with ViroPharma (NASDAQ: VPHM).
VPHM is a small biotechnology company focused on using unique treatments for viruses that can occur during transplants. VPHM currently has two drugs on the market and others in various stages of testing.
Today, the company announced that its Maribavir drug did not reduce the incidence of cytomegalovirus that often occurs during transplants. These disappointing results in a late-stage study resulted in VPHM dropping by more than 50% immediately after the news.
I made VPHM one of my top 10 stocks to own in 2008, and I was not disappointed in the company's performance. The stock gained some 64% and was one of the few stocks that managed positive returns during what was a very difficult year for stocks.
It was also a year before the sheep got involved. That changed in 2009. With everyone recommending biotechnology, you will note its complete absence from my Top 10 Stocks for 2009.
Do not pretend that such a promising sector has no risk. VPHM shareholders are learning that risk is quite high.
Jamie Dlugosch is a contributor to InvestorPlace.com.
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