Yesterday, two very senior Members of Congress – Reps. Sanford Bishop, Jr. (D-GA) and Cathy McMorris Rodgers (D-WA) – introduced H.R. 2620, legislation to authorize a partial federal guarantee of bonds backed by debt to top-quality biomedical research aimed at treatments and cures for blindness and severe vision impairment. I wrote about this bill when it was first introduced in 2018, and the 2019 measure is no different than the one highlighted then in the Wall Street Journal, MarketWatch, and the Washington Monthly. What’s different now is the answer to the question we’ve been asked a lot since this “Eye Bond” legislation was introduced – why create a new public-private investment just for blindness? Why not do more and do it now for the full spectrum of disease and disability?
Reps. Bishop and McMorris Rodgers made it clear in their releases that Eye Bonds are the first step along the way to what we call Bio Bonds. How would these work and why wait?
My article in the April issue of the Social Innovations Journal is a detailed answer to these questions. In short, it’s important to start a new asset class off right.
We know from disastrous experience with Fannie Mae, Freddie Mac, and all too many other federal guarantees that ill-disciplined federal backstops quickly turn public money into unbridled private profit. We also know that most instances in which governmental bodies own stakes in private companies similarly turn into pay-offs for best friends, big contributors, and brothers-in-law.
And, given recent political history, we also know that it would be virtually impossible to gain bipartisan agreement to a giant federal backstop for biopharma ventures any time in the foreseeable future. Too many people need too much help to wait too long for so ambitious a federal guarantee.
Even so, why authorize a partial guarantee only for debt instruments related to blindness? One might agree with the need to start small with a limited pilot effort including all the controls stipulated in H.R. 2620. But why must the Faster Treatments and Cures for Blindness Act be all about blindness? Why not just the Faster Treatments and Cures Act?
The answer lies in what we know not only about politics, but also about finance. Portfolio-diversification theory is a proven axiom of financial markets – that is, investments in a group of exposures of varying risks to different people in different regions is less risky than one really big bet on one very large loan or equity investment. However, portfolio diversification doesn’t mean portfolio distraction.
There’s a reason why secondary-market instruments don’t include a willy-nilly mix of mortgages, auto loans, credit-card obligations, and the odd obligation related to aircraft leases, rolling-stock holdings, and even the rock-concert ticket proceeds that have found their way into securitizations. Each one of these bonds is a single asset class because it’s possible to model risk, anticipate prepayment, and ensure real exposure diversification only within a unified set of assets. Who knows enough about all sorts of obligations to know all this about each one, ensure that all of these diverse obligations are to truly different obligors, and then also to anticipate likely investors? Maybe AI or forces on high will do this someday, but so far no one can.
In the biomedical field, these knowledge gaps are particularly formidable. Venture-capital and biopharma firms are able to make big profits by virtue of specialized expertise – that is, each retains large groups of highly-paid medical experts to vet one-off investments in different medical areas and most companies specialize in only one or two diseases or disabilities. Despite valiant efforts by academic and even financial researchers, there are no financial-risk models that replace the complex reasoning and in-depth knowledge necessary to judge critical questions such as how many patients might be eligible for a treatment, how much value-add does a new treatment offer, how much could be charted for the new treatment, and – most importantly – will it work.
The Eye Bond legislation solves this problem by having the National Eye Institute, an arm of the National Institutes of Health (NIH), identify best-in-class vision research to ensure that new financial instruments back projects most likely to succeed. Private-sector banks would extend credit and private-sector underwriters would determine criteria by which repayment capacity is judged and likely repayment may be expected. Because Eye Bonds are debt – not equity – instruments, the combination of top-quality scientific insight from NEI creates the equivalent of a credit score from which financial institutions then set additional “conforming loan” standards based on well know corporate-underwriting principles.
Once we know how well this works for vision, the same construct could be applied to other diseases and disabilities. For example, the National Cancer Institute could vet best-in-class cancer research ready for private-sector funding via debt instruments. The National Institute of Aging would do the same for Alzheimer’s, Parkinson’s, and other debilitating neurological conditions. Bonds in each class would then constitute the new Bio Bonds market with the combined force of scientific expertise, private-sector financial discipline, and a federal backstop.
We’ve already seen this public-private powerhouse at work in the form of green bonds. Starting with a small World Bank guarantee in 2008, the global market barely a decade later tops $500 billion. There are billions – maybe even trillions of capital on the sidelines waiting to find ways to invest in public-welfare projects as long as private wealth is not put at undue risk.
We hope that Eye Bonds now and Bio Bonds to come repeat the green-bond success story, reflecting a few lessons learned along the way about the importance of incentive alignment and asset-class discipline. We know, though, that this has to be a pilot project because there’s a lot we don’t yet know about biomedical research as an asset class and the specific terms, conditions, and construct of market-ready financial instruments. We hope Eye Bonds now will prove all these points. But even if they don’t, the government will be out little if any money and there will be a lot fewer blind people because more cures will have moved far faster from labs to patients. It seems worth the try.