Cannabis Investing 5: When Moon, Mars and Stars?
- Adastra
- May 2, 2022
- 9 min read
Updated: Nov 8, 2023
The pandemic has changed the investment landscape in ways that I could never have imagined. Traditional “old school” value investing based on fundamentals has stepped aside leading to the phenomenal You Only Live Once (YOLO) school of investing in Meme stocks, cryptocurrencies and other sentiment fueled sectors. This has led to some crazy “To the Moon” expectations, which when not met, leads to whining on social media.
The cannabis sector also had crazy expectations and at the time of this blog’s launch (June 2022) the investor sentiment for this sector is at probably an all-time low. “Dead money” is a term you often hear. Sentiment has been on a decline since March of 2021 and this has been worsened with Senator Schumer delaying CAOA from April 20, 2022 to several months later. The industry and investors were eagerly looking forward to some good developments on the 4/20 date, as that was the justification for Schumer and his friends to block the SAFE Banking Act in the senate. This lack of delivery, another in a series of failures to deliver on promises made, could not have come at a worse time. The markets started pulling back soon after with selloffs in Technology and other sectors, and Cryptocurrencies. The already low valuations and share prices of Cannabis stocks only kept falling lower with no support.
From Senator to CEO, to repeatedly overpromise and underdeliver is one of the most effective ways to destroy credibility and goodwill among supporters and shareholders. The only thing worst would be actions that are illegal and/or unethical. Once credibility is lost it becomes difficult for these people in power to regain the trust of those who believed in them and are the true cause of their success.
Given this low sentiment it is important to set expectations right for the stocks covered here, especially in terms of timing of the next bull market and the various price target scenarios presented in this blog. Nobody can predict the timing of the next bull market. But as seen in past bull markets, it will probably happen so fast that stocks could easily double in just a few days, reducing potential gains by half. The bull market could happen in 2023/24 if we see some progress in legislation (banking/tax reform, uplisting, descheduling, legalization, etc) that leads to reversal in sector sentiment. Or it could happen in a future year. There is incentive for US politicians to get some wins before the US Presidential elections (2024) to improve Biden’s reelection chances, given the strong support for cannabis legalization with US voters.
My investment thesis for cannabis stocks that can be summarized in the following points:
1. The cannabis stocks trade more on hype than on fundamentals
2. In the two previous cannabis bull runs (2018 for Canadian cannabis legalization and 2021 for promised, but undelivered US cannabis reforms), stocks traded at logic and fundamentals defying high valuations of double and even triple digit PS ratios. The Historic Bull Market Valuations analysis shows visually the extent of this insanity. A point to note is that the Nasdaq listed stocks traded at much higher valuations than OTC listed stocks
3. The next bull run in cannabis stocks will need meaningful US cannabis reforms. This will likely be from either the DEA rescheduling cannabis to schedule 3 or the passing of banking reforms (SAFER Banking Act). There is a good probability that meaningful reforms will pass in the weeks/months to follow, well before the US Presidential elections. The Democrats have stalled on promised cannabis reforms and will use it to improve Biden's chances for re-election
4. The best gains in cannabis stocks will only happen when there is confirmation that stocks stagnating on the OTC exchange will get to uplist to Nasdaq/NYSE and there is confirmation that institutional investors can easily invest in the sector
5. Although nothing can be predicted with certainty, cannabis reforms will be a once in a century event, not seen since the end of alcohol prohibition (1933). The entry of institutional investors, along with hype/FOMO from retail investors, will likely lead to similar valuations (PS 5+, 10+ or maybe even 20+) for the Nasdaq listed stocks, as seen in the 2018 & 2021 bull runs. The color coding stays Green (darker to lighter shades) from PS ratios from 0 to 10, and switches to Yellow at 10. This is designed to give visual data points for investors to decide (for themselves based on their individual risk profile) when to reduce risks or take profits during the bull run
6. There is a good probability that Nasdaq listed stocks will outperform OTC listed stocks, prior to the OTC listed stocks getting uplisted. This is based on the historical analysis of previous bull markets and because many institutional investors can invest in Nasdaq listed stocks but not on OTC listed stocks. In addition, established retail investors, many of whom I have discussed OTC listed MSO stocks with in real life, refuse to invest in stocks listed on illiquid and easy to manipulate OTC exchange.
My rationale is to Buy Low Valuation, Sell High Valuation; included as a principle in this blog’s Investment Methodology. Low single digit PS valuations (especially below PS ratio of 5) offer a good value proposition for companies growing at high revenue growth rates. The table in the Best Cannabis Stocks page shows PS valuations along with the average Quarter over Quarter (QoQ) Revenue Growth for the decade starting Q1 2020. You see that several of the high ranked stocks have PS valuations in the low single digits, in spite of having 10%+ average QoQ revenue growth for the decade. It is fundamentals and logic defying to see valuations lower and revenue growth higher than other sectors, including Technology and Electric Vehicles (EV). And trends show that the cannabis market will keep growing till 2026 and even beyond. Anyone who invests now and is willing to hold till 2026 will benefit from revenue growth, and also a potential bull market between now and 2026.
That’s where the “old school” value investing mindset plays a role in success. If you cannot hold for the next bull market, this may not be the sector for you to invest in. If you can hold, you get to ride not one but two waves – the revenue growth wave and the bull market valuation wave. The combined effect of these two waves can magnify the potential gains in share price appreciation, making this potentially one of the great investment opportunities of the century. Each stock that I have an investment thesis page for in the STOCKS category has a scenario analysis and price targets modelling the two waves of revenue growth and bull market valuation.
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Any cannabis investor investing using fundamentals is a nerd, myself included. I don’t use the term nerd in a derogatory way. I am a proud nerd, and love all nerds. We look at fundamentals, numbers and data. But the market cares not just about fundamentals, but also about hype and institutional participation. The folks who will bring the the party to life are the institutional investors. There can be no sustained share price rally without them. The real fun will happen only when they enter the party. Until then, you might get bored and frustrated. You might even choose to exit the party early out of frustration. Nobody knows when the party (bull market) will happen. But you will recognize it easily when institutions start accumulating.
The point to note is that institutional investors are not just cool, they are nerds themselves. They like numbers, data and fundamentals, and many have analysts whose job is to produce research reports that are used to advise clients and the investment community. In addition they have resources and connections that give them the power to influence the markets. They are the experts invited to share their opinions in mainstream media.
I envision a day with new Vangard and iShares cannabis ETFs. The ETFs analyzed in this blog, combined had less than US$2 Billion in Assets Under Management (AUM), at the time of this blog’s launch. Imagine the impact of the funds from institutions with trillions in combined AUM being able to finally invest in the sector. My multiple pages in the ANALYSIS category have analyses on valuations (PS), revenue growth, AEIBITDA, etc. I am not a professional investor and I did this part time with a full-time job and family commitments. Imagine the amount of due diligence, analysis and reports published when these institutions, with armies of analysts far more qualified than me, analyze the valuations and growth of this sector. I could be wrong, but I see a good probability of this being one of the great investment opportunities of the century, similar to what we have seen with the Electric Vehicles (EV) sector and cryptocurrencies, before the selloff of 2022. If you can wait patiently for the party to begin, you might just have a really fun (and hopefully profitable) ride.
When can we expect the next cannabis bull market?
This is a difficult question to answer. We saw a bull market that peaked in February 2021 soon after Biden became President. But we saw that crash when there was no execution to follow the election promises. The next bull market will likely happen during (or before) some meaningful legislation progress happens in the US. But for the bull market to be sustainable, the US MSOs need to uplist to Nasdaq or NYSE, and institutional investors need to be able to invest.
Depending on the timing of implementation of uplisting and institutions joining the party, we might see a scenario where the bull market will favor the Nasdaq listed senators first, while the gladiators miss out. Such a scenario would see senators like Tilray, Canopy Growth, WM Technology and High Tide rise to disproportionately higher valuations, at which point they can raise large amount of funds through equity offerings. These funds could be used to buy out OTC listed gladiators at low valuations (using creative techniques to do so legally). This would see the Canadian companies become winners and major players in the global Cannabis industry. The irony of this scenario is that the US politicians, with their delays and political agendas, could end up being the cause of a transfer of strength from US to Canadian companies, who are fortunate to be on Nasdaq/NYSE and hence benefit from institutional fund flow and trading volumes. To avoid this scenario, accelerating the uplisting of US MSOs would be a patriotic act in favor of US Cannabis companies. But based on the lack of meaningful progress since Biden became President, there is a probability of delayed uplisting scenario happening, benefitting Canadian companies. Only time will tell. But it would be strategic to invest in a balance of good quality stocks listed across the exchanges, some on the OTC and some on the Nasdaq/NYSE exchanges.
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Disclosure: I (username Adastra) am an investor not a trader. I am bullish on the Cannabis sector as a long-term investment (2026 and beyond), provided stocks/ETFs are carefully picked based on data-driven due diligence. Of the 16 stocks covered in the Best Cannabis Stocks analysis, I have invested only in my top 3 picks: High Tide, Green Thumb and Curaleaf. But my analysis indicates (without any guarantees) that there is a potential for impressive gains in investing in the stocks best ranked in the analysis, including WM Technology, and Trulieve, which have a dedicated page with detailed analysis in the STOCKS category. I reserve the right to buy or sell at any time any of the stocks mentioned in this blog. I do not short stocks and never will short any stock in a company that makes the world a better place. I do not have insider knowledge of any company covered in this blog. All data used for analysis is from public sources. I have received (as of last update date of this page) ZERO funding for this blog from any of the companies featured in this blog.