The Vaping Scare Bottom
The cannabis sector has been trending down since the end of March, giving back its spectacular gains from the start of the year, and until now I’ve remained optimistic about our stocks, partially because of their outstanding fundamental growth metrics but also because Cabot’s two main trend-following indicators for the market were positive.
But this week the broad market hit a pothole—presumably because of weak manufacturing data—so Cabot’s intermediate-term trend indicator has now turned negative—which could be read as a sign that it’s time to increase our cash position to minimize further losses.
On the other hand, with the average stock in our portfolio already down 58% from its 52-week high as of yesterday, and the index down 56% from its late-March high, the odds are very good that the majority of this correction has passed. In fact, yesterday afternoon’s bounce in the sector, coming as the Dow was down 500 points for the day, is a sign that there is some appetite for these stocks at these bargain prices.
Of course, this is partly because these stocks were severely out of trend to the downside at the time, so a rebound was due. And it’s probably coming mainly from individual investors; institutions are still wary of this young and volatile sector, not least because much of its activity is still illegal under federal banking laws. That will change eventually. The House has passed the Safe Banking Act and next the Senate will address it.
Nevertheless, the sector’s big bounce yesterday, coming after a solid six-month correction, raises the big question: Should we sell on this bounce and raise more cash, heeding the guidance of our intermediate-term indicator of the broad market? Or should we stand pat, trusting that the worst is over for cannabis stocks and that these industry-leading companies will see their stocks rally nicely from here?
The problem with following the indicator of the general market is that it hasn’t been representative of the cannabis sector over the past six months; what we really need is a cannabis timing indicator—and we’re working on it. The problem with disregarding the indicator is that it leaves us open to greater losses if cannabis stocks truly do head lower in synch with the broad market.
So what do we do? My choice is to trust in the long-term, and continue to work to ensure that the portfolio is stocked both with stocks that will be long-term leaders of the industry (like Aphria and Curaleaf) and stocks that are going the right way now (like Charlotte’s Web). Timing the ripples in this sector is challenging, while riding the long-term wave is not only easier but also more likely to bring long-term success.
Looking back at today from the end of the year, in fact, my guess is that we may look back at this week’s low as “The Vaping Bottom” in the same way that we look back at the peak of October 2018 as the Canadian Legalization Peak.
Canada’s legalization on October didn’t magically erase all the challenges for the industry, but it did mark a top—and the vaping problem won’t torpedo the great strides being made as this industry grows rapidly into a large and mature and almost totally legal market—but it may have marked a bottom.
Alcanna (LQSIF) Thinly traded Alcanna, which is diversifying from the slow-growth retail alcohol industry in Canada to the fast-growth cannabis industry, continues to build a bottom in the 3.7 area. It’s one of the three stocks in the portfolio that didn’t bounce yesterday and isn’t a recommended buy until it can reestablish its uptrend.
Aphria (APHA) Aphria, currently the largest producer in Canada, continues to build a bottom at 5, where it bottomed last December. Valuation-wise, Aphria is the most attractive Canadian producer in my book, but as with LQSIF, I don’t recommend buying until we see a true uptrend. The company will release results for the three months ended August 31 on October 15 before the market open, so waiting until after that announcement is prudent.
Aurora (ACB) Aurora was the second largest Canadian producer in the second quarter, but the stock has been trending down since March, and it’s still expensive! The portfolio has been underweight the name for many months, and will continue to hold, as the stock is now testing support at 4, where it bottomed last August.
Canopy Growth (CGC) The bigger they are, the harder they fall. Canopy used to be the #1 Canadian cannabis producer, but after it lost the crown, investors began selling. CGC is now heading for its lows of early 2018—and it’s still expensive. Still, Constellation Brands, which owns 38% of the company, is expected to have some influence when cannabis drinks go on the market in Canada in December. In fact, this week Canopy announced it had purchased a 72% stake in Biosteel Sports Nutrition with an agreed-upon path to 100% ownership. Biosteel is a leading producer of sports nutrition products, whose products have been purchased by over 70% of the teams in North America’s four major sports leagues. This gets Canopy into the $50 billion sports nutrition market and lays the groundwork for CBD-infused sports recovery drinks once they’re legal. The portfolio holds a minimum 1% position, patiently awaiting the end of the bottoming process.
Charlotte’s Web (CWBHF) Colorado-based Charlotte’s Web is America’s biggest seller of CBD, and its stock was one of the biggest bouncers in the portfolio yesterday, up as much 13% at one point. Still sitting above its June low, it’s one of the better-looking charts in the portfolio. If you haven’t bought yet, you can nibble here.
Cresco Labs (CRLBF) The third-largest multi-state operator (MSO) in the U.S., Cresco has a terrible chart, almost back where it started in late 2018. But valuations are not unattractive relative to others in the sector. On Monday, the company announced an agreement to sell its Kankakee, Illinois properties to Innovative Industrial Properties for $46.3 million and signed a triple-net lease agreement that will enable it to use the properties as cannabis processing and cultivation facilities—basically getting the company out of the property business and freeing up capital for its cannabis business. If you don’t own it, wait for the uptrend to be reestablished.
Cronos Group (CRON) Fundamentally and financially, Cronos seems to have a lot going for it. But technically, its chart looks terrible, testing its lows of last November. The portfolio has taken plenty of money off the table, plus still has a big profit on our remaining, underweight position, so can afford to sit patiently. But if you don’t own it, look elsewhere.
Curaleaf Holdings (CURLF) Curaleaf is the largest position in our portfolio, as well as the leading MSO in the U.S., and it was the biggest gainer in the portfolio yesterday, up as much as 22% near the close. If you haven’t bought yet, you can nibble here. Valuation-wise, the stock looks almost reasonable.
Green Thumb Industries (GTBIF) This Chicago-based MSO is our most recent addition, added just last week after the stock had shown exceptional strength in early September and then corrected. I now see a double bottom, as well as a big 11% gain yesterday, so if you haven’t bought yet, you can buy here.
Innovative Industrial Properties (IIPR) IIPR is the REIT whose stock peaked in July and then traced out a normal correction; it hit its 200-day moving average in early September and has been riding it higher since. All told, it’s a constructive pattern, which could keep it trending higher, particularly if investors continue to favor conservative stocks. On the other hand, given how out-of-trend the stock was to the upside for so long, I wouldn’t be surprised to see a longer period of consolidation. We’ll hold.
Organigram (OGI) OrganiGram is the portfolio’s biggest Canadian position, partly because we’ve done well buying low and selling high and partly because the financial prospects for the company are good; analysts are expecting a profit of $0.06 per share in 2019 and $0.16 in 2020. Trouble is, in recent weeks, the stock has continued to fall. Last week I told you the stock needs to bottom at or above 3.0. So far, so good.
Turning Point Brands (TPB) With a dividend of 0.8% and a PE of 14, TPB is actually a good value by traditional measures. Unfortunately, Turning Point’s major pivot into the cannabis industry was in the vaping segment, and that’s been under serious pressure thanks to illnesses caused by illicit vape manufacturers. The portfolio is underweight and waiting to see how far this extended trend can run—encouraged most recently by heavy buying volume on Monday.
Village Farms International (VFF) Village Farms International is the Canadian greenhouse grower of tomatoes, cucumbers and peppers that’s diversifying into marijuana (in Canada) and hemp (in the U.S.). Like Turning Point, this stock is also a good value by traditional measures. If you haven’t bought yet, you can buy on this pullback.