Indices strongly influence portfolio stock selection decisions and therefore are critically important to issuers trying to get on investors’ radar screens.

Indices are the backbone for the investment processes used by most funds and asset managers. Based on a review of over $34 trillion in equity investment portfolios globally, over 98% make use of a benchmark index. This investment universe includes both indexed and actively managed portfolios.

Indexed funds and portfolios try to match the performance of the selected index by holding the same securities and in the same relative weights, so index inclusion is clearly important if you want to attract those funds as buyers. At the same time, inclusion in the indices used by actively managed funds – i.e., funds that are trying to beat their index – is also very important to issuer companies as index constituents are the starting point against which these funds position their over and underweight bets. Passive indexed funds have been the fastest-growing segment of the market, but active funds remain the larger of the two by a wide margin.

Together, the S&P 500, MSCI ACWI, Russell 1000 and CRSP US Total Market indices are used by almost 50% of assets in global equity investment portfolios. Notably, three of the four only include U.S. companies and three of the four are skewed toward large and mid-cap sized companies. The good news is that issuers who do not meet one or both of those criteria still have opportunities for inclusion in other important indices that may target small or micro-cap issuers and/or specific sectors or investment themes such as Healthcare, Biotech and Life Sciences.

For a long while, the Nasdaq Biotechnology Index (NBI) and the S&P Biotechnology Select Industry Index (SPBIO) were the dominant indices measuring Biotech companies. Then, in June 2021 the iShares Biotechnology ETF – the largest Biotech fund with $8.7bn in assets as of December 2022 – switched its underlying benchmark to the ICE Biotechnology Index (ICEBIO) from NBI, and ICEBIO quickly rose to prominence. Now ICEBIO, together with two other ICE indices (the NYSE Arca Biotechnology and Dynamic Biotech & Genome Intellidex Index) place ICE on top with $10.5 billion in AUM tied to its Biotech indices, followed by NBI ($9.6bn) and SPBIO ($9.4bn).

ICEBIO and SPBIO are the indices preferred by indexed Biotech funds, with a combined 82% market share, while NBI is primarily used by actively managed Biotech funds.

ICEBIO and SPBIO are the indices preferred by indexed Biotech funds, with a combined 82% market share, while NBI is primarily used by actively managed Biotech funds. Together, the five biotech indices published by ICE, Nasdaq and S&P account for 54% of assets invested in Biotech funds with the remaining 46% spread across 40 other indices (see Appendix 1 for a full listing). While most of these other indices fall in the Biotech and Healthcare categories, $11bn in Biotech funds, or 20%, are using the broad S&P 500 and MSCI ACWI indices mentioned in the previous section as their performance benchmarks.

There are significant compositional differences between the main Biotech indices. Most notably, ICEBIO and SPBIO are pure Biotech indices while NBI includes Pharma.

ICEBIO, NBI and SPBIO all carry the same “Biotechnology Index” name but that belies the fact that underneath the covers they are very different indices. That is not to say one is better than the other. It simply points to the fact that they measure different baskets of stocks, and fund managers and institutional investors will gravitate to one or the other for different reasons.

One of the most obvious differences is that the ICEBIO and SPBIO indices are designed as “pure” biotech benchmarks, while NBI includes Pharma as well as Biotech companies. There are also differences in the way the different providers define the Biotech sector. For example, the ICE Biotech definition includes companies involved in Biotech Tools & Diagnostics, whereas S&P maintains a separate Life Sciences Tools & Services category and companies in this category are only included in SPBIO index if there are fewer than 35 qualifying stocks in the index, which is currently not the case.

Other differences affecting the compositions of the three indices include the fact that SPBIO is limited to US companies while ICEBIO and NBI are not. Conversely, NBI is limited to stocks listed on Nasdaq whereas ICEBIO and SPBIO include stocks listed on all the major US exchanges. Additionally, SPBIO constituents are equally weighted, while ICEBIO and NBI constituents are capitalization weighted. That gives SPBIO a higher exposure to small cap names than the other two indices. A more detailed comparison of the inclusion criteria across the three indices is provided in Appendix 2.

These rule differences leave SPBIO with significantly fewer constituents than its two peers – it currently holds 152 constituents versus 270 for ICEBIO and 273 for NBI – with the exclusion of non-US companies and higher minimum market cap size filters being the greatest contributors to the smaller SPBIO constituency. Meanwhile, even though they have comparable constituent counts, the ICEBIO and NBI

As mentioned earlier, the fact that the three flagship Biotech indices have significant compositional differences does not necessarily make one better than the others. But these are factors that investors do consider when selecting a benchmark index, particularly as it relates to potential performance. Past performance is not a predictor of future performance, but we think one can gain insights into the risk/return trade-offs of different indices based on past results. And, since there are meaningful differences in the compositions of the three indices, we believe it is important to look over an extended period of time to avoid narrowly focusing on performance in a short period that may be biased toward one over another due the point in the economic cycle covered by that particular period.

Over the last 10 years, SPBIO was often at the top or bottom of the annual rankings. Meanwhile, ICEBIO often ranked in the middle but had the best long-term return.

A comparison of annual returns over the last 10 years shows that SPBIO has tended to gravitate toward either end of the performance spectrum – ranking on top six times and on bottom four times, but never in the middle. On the other hand, NBI has topped the rankings twice, landed on bottom four times and placed in the middle of the three indices four times. ICEBIO has been more balanced than the other two, ranking in the middle six times, while placing at the top and bottom of the rankings twice each. SPBIO has performed best in up markets, leading the other two in 5 of the 6 years with positive returns, but underperforming in 3 of the 4 down years. Notably, over extended periods of time, it is ICEBIO that ranks on top for the last 3-, 5- and 10-year periods.

Though they have had years of underperformance, an equal blend of ICEBIO, NBI and SPBIO had better 10-year returns than blends of prominent broad indices.

While it is useful to understand how the biotech indices have performed relative to each other, we believe it is also important to look their collective performance relative to the broader market. Based on the last 10 years, the answer to that question is that they have done very well. During that period, an equal blend of the ICEBIO, SPBIO and NBI indices generated a 12.18% annualized return. Over the same period, a blend of the two most prominent large/mid-cap indices (S&P 500 and Russell 1000) generated an 11.39% annualized return, and a blend of the two most prominent small-cap indices (S&P 600 and Russell 2000) generated a 9.93% return.

Of course, it has not always been smooth sailing for the biotech indices. Collectively, they lagged both the large/mid and small-cap index blends by sizable margins over the last 3 and 5 years with a large downturn in 2021 accounting for the bulk of the shortfalls. Nonetheless, the biotech index blend came out ahead of the other two blends in 6 of the last 10 years and ranked second once, while landing at the bottom of the heap just three times, including 2016 and 2018 as well as 2021.

In addition to the main Biotech indices, there are a number of other indices catering to the Life Sciences space, including Healthcare and Pharma indices.

We highlighted the fact that the Nasdaq Biotechnology Index is a hybrid that includes Pharma as well as Biotech companies. There are also several pure Pharma indices out there – most notably the FTSE World Health & Pharmaceuticals index – but the fund segment following those indices is relatively small ($8bn in fund assets versus $53bn in Biotech funds). Notably, Biotech and Pharma companies can also qualify for inclusion in the broader Healthcare sector indices ($290bn in fund assets), not to mention major large, mid, and small-cap indices. In fact, of the 326 companies included in one or more of the three main Biotech indices, two-thirds are also in one or both of the two indices tracked by the largest healthcare ETFs: the S&P Health Care Select Sector and MSCI US IMI Health Care 25/50 indices.

At the end of the day, inclusion in any of these indices should help put a company’s stock on the radar screens of the funds that use them as benchmarks. And while the more indices in which a company finds itself the better, the relative importance of each is likely a function of the total assets invested in the funds that are benchmarked to those indices. Most indices are “rules-based”, meaning that constituent selection is based on a published set of rules and methodologies. Therefore, it is important for issuers to understand the key criteria on which their index eligibility is determined.