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Tom Yeung here with today’s Smart Money. In 1995, film director James Cameron came up with the idea of Avatar, an epic film set 100 years into the future. The movie would feature alien worlds... computer-generated graphics... and at least six actors “who appear to be real but do not exist in the physical world.” At the time, the technology wasn’t advanced enough to realize his dream. Computers of 1995 could only produce films like Toy Story, where each frame took as much as 30 hours to render. But by 2007, Cameron was ready to move ahead. Filming began that year, and Avatar would go on to earn three Oscars, two Golden Globes and become the third-highest-grossing film of all time, after adjusting for inflation. This movie was made possible by exponential improvements in computing power, often called Moore’s Law. It’s an observation, made in 1965 by Intel Corp. (INTC) founder Gordon Moore, that the number of transistors per square inch on a microchip typically doubles each year while the manufacturing cost per component gets cut in half. (The figure has been updated to 18 months.) In fact, the cost savings represented by Moore’s Law also exist in other industries: - Solar energy has Swanson's Law, which observes that prices drop 20% for every doubling of shipped volumes.
- LED lighting has Haitz's Law where the cost per lumen decreases 90% every decade.
The average $600 laptop now has more computing power than the 117 pricey Sun SPARCstation servers used to render Toy Story in the 1990s. But one tech-related industry has defied these rules... Pharmaceuticals. For pharma companies, the soaring price of drug development comes with real costs. In fact, the situation is so bad that researchers have taken to calling this phenomenon “Eroom’s Law.” That’s “Moore’s” spelled backward. However, upcoming technological advancements could change Eroom's backwards fate… and, therefore, boost healthcare-related plays. Let’s take a look... | Recommended Link | | | | What’s coming could accelerate the global economy by as much as 250 times its normal rate. It also threatens to ruin the financial outlook for millions of Americans. Whether or not you’re an investor, you still need to prepare. Click here for 3 steps to take now. |  | | The Trouble with Eroom's Law Since the 1980s, the pharma industry has followed a rule of its own. Rather than go down, the prices of developing new therapies have only gone up... doubling roughly every nine years. According to Deloitte, the average drug now costs an eyewatering $2.3 billion to bring to market. In November, drugmaker AbbVie Inc. (ABBV) lost $40 billion in market cap value after a major bet on a schizophrenia drug flopped. One analyst called it a “flat-out” failure. And Eli Lilly and Co. (LLY) shed $70 billion after revealing that fourth-quarter revenues would miss previous expectations by 5% on lower-than-expected sales of weight-loss drugs. That’s because every drug eventually falls off patent, becoming near-worthless for the company that invented it. Generic drugs quickly take over once patents expire, and prices of even the best medications quickly plummet to near-zero. (There are some exceptions, like insulin, but most drugs see a 97% reduction in price once they go generic.) In addition, most drugs take so long to develop that pharma companies typically only have 10 to14 years on patents to profit from these $2.3 billion investments. That means these firms face an endless cycle of throwing ever more money at developing new drugs. On average, pharmaceutical firms in the S&P 500 are expected to generate just 8.3% return on capital invested, well below the S&P 500 average of 11.5%. That’s created a dent in valuations. The average pharma company trades for just 15 times forward earnings, putting it in the same league as airlines and mining firms. Investors know these firms all require enormous capital investments to keep going, and so they “punish” the stock by keeping it cheaply valued. But... what if things changed? What would happen if drug development prices decrease by half every nine years? What if drug companies could test medications virtually? What if computers could dream up new drugs that no pharmaceutical scientist had previously thought of? And what if you could buy these top companies before other investors realize what’s happening? The Hidden AI Revolution in Healthcare Of course, you likely have realized that I’m talking about the rise of artificial intelligence in drug development. Companies from Nvidia Corp. (NVDA) to Alphabet Inc. (GOOG) have already begun creating software to model proteins – a tricky task that can help predict how drugs will work. And the best part is that some healthcare firms are even further ahead. In fact, one of Eric’s healthcare picks recently used AI to create a new drug... a therapy so unlike anything seen before that analysts expect it to generate as much as $10 billion in sales per year, putting it on track for $100 billion of lifetime sales. And this was only possible because of AI. In a recent Fry’s Investment Report update (subcribers can check it out here), Eric highlights how this firm used AI to sort through 7,410 combinations of drugs that researchers had identified – a task that would have been impossible in real-life human tests. The algorithm was able to find the perfect combination, and suddenly, a game-changing drug was born. Shares of this pharma firm have already surged 35% in the past six months, and we expect even more gains as profits from this “miracle drug” begin to flow in. And this is only the start. Over the next several years, we’re going to see the development of artificial general intelligence (AGI), smarter-than-human AI systems that could potentially create even better versions of themselves, and so on. That would revolutionize the pharma industry and turn Eroom’s Law on its head. Pharma companies will suddenly become more like tech firms, and companies like Eric’s recent healthcare pick stand to gain handsomely. Of course, I can’t tell you the name of this drug company. Not here, anyway. However, you can watch Eric’s free presentation on the 1,000-day countdown to AGI. During that broadcast, Eric also explains how to become a member of Fry’s Investment Report... where you will be able to access this company’s name... and everything about its AI-created drug. Click here to check it out. Regards, Thomas Yeung Markets Analyst, InvestorPlace | 
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