We’re now presented with an interesting situation. The broad market, which hit record highs just last week, is now sick, thanks to investors’ perception that the coronavirus will negatively affect global trade. But the marijuana sector, which has been in a correction for more than two years, has many stocks that have been building bottoms.
No one knows how this will shake out in the short term, though clearly, the long-term potential of the marijuana sector remains intact.
Nevertheless, by observing the action of individual stocks and following time-tested procedures, we will come through this in fine shape. Today’s issue includes a few partial sells as well as a handful of downgrades while we wait for the dust to settle.
Full details in the issue.
Cabot Marijuana Investor 220
Where’s The Bottom?
I’ve been through a lot of nasty markets in the 34 years I’ve spent at Cabot—some of them infamous, like 1987 and 2000 and 2008, and some of them less so, like 1990 and 1997 and 2002—and while I can’t say I’ve found them pleasurable, I can say that they taught me a few important lessons. Among them are these:
- It’s important to respect the market’s trend.
- No one knows where the bottom is.
- Those who hold cash on the way down find attractive buys after the bottom.
The challenge for investors in the marijuana sector today, however, is that we have two markets to consider.
Front and center is the broad U.S. stock market, which peaked last week and then imploded this week on fears that the coronavirus would negatively impact business on a global scale. That market was high and needed a correction, so I’m happy to see it, regardless of the putative cause. This correction could easily last weeks or months before the bull market’s major trend reasserts itself, and when it’s done, investor sentiment will be substantially cooler than it was last week.
Then in the background there’s the market of marijuana stocks, which have been in a correction for more than two years and in many cases been building solid bases over the past few months. These stocks don’t need a correction; they’ve had it. The index is down 74% since January 2018, while the average stock in our portfolio is off 65% from its peak. What these stocks need is buyers.
Marijuana Index
When these buyers will show up, of course, no one knows. Sure, there have been pockets of strength in a few or our stocks, and that’s been encouraging, but the sector as a whole remains in a base-building mode at best, and while it’s nice to imagine that these stocks might come to life while the broad market corrects, it would be rare. Instead, what’s most likely is continued attrition—a weeding out of the marginal players—so that the money in the sector can eventually focus on the leaders.
For example, I have some records I kept from early 2000, when internet stocks had a blowoff top. Soon after the top, our database had 124 e-commerce stocks, with names like Book4Golf.com, BarnesandNoble.com, Collegelink.com, E-Stamp, Etoys and E Marketplace. Two years later, the number had fallen to 68, and a year after that, there were only 49 left (including a company named Amazon).
Going forward, it’s natural that the same thing will happen to marijuana stocks. So, the keys to surviving this increasingly mature correction in the sector are 1) holding some cash and 2) holding only the stocks most likely to lead the way when the uptrend resumes. In theory, it’s quite simple. In practice, the devil is in the details.
Strategy
Focus on the leading companies and strongest stocks, which you’ll find in the portfolio. Avoid stocks trading under a dollar (that’s the majority) and stocks hitting new lows. Cut losses short (always a good strategy for growth-oriented investors). And avoid preconceived notions. Anything is possible going forward (including acquisitions at bargain prices), but by watching the action of the individual stocks, we’ll be sure to own the leaders when the sector’s uptrend resumes.
What to Do Now
Coming into this week, the portfolio was 17% in cash, which now seems a bit low. So we’ll now sell a third of our Aphria (ACB) and a third of our Trulieve (TCNNF), taking the portfolio to roughly 23% cash.
CURRENT RECOMMENDATIONS
Note: The table reflects the state of the portfolio holdings before acting on any new recommendations.
Stock Updates
Aphria (APHA) to Hold (Sell a Third)
Cresco Labs (CRLBF) to Hold
Cronos Group (CRON) to Hold
Curaleaf (CURLF) to Hold
Green Thumb Industries (GTBIF) to Hold
Organigram (OGI) to Buy
Trulieve (TCNNF) to Hold. (Sell a Third)
Akerna (KERN)
Based in Denver, Akerna provides software that serves both the companies in the U.S. cannabis industry and the government entities regulating them, with products that track cannabis from seed to sale. Thus it’s legal nationwide, and attractive for the diversification it adds to the portfolio. And the chart has now gotten quite interesting! Two weeks ago, after management reported underwhelming second fiscal quarter results (revenues of $3.3 million, up 28% from the year before), the stock gapped down, eventually closing at 7. And since then, the stock has built a nice base at 7. On Monday, when the broad market fell apart, KERN closed above 7. And yesterday, when the broad market continued to plummet, KERN was up; somebody was buying! Admittedly, this does not constitute a renewed uptrend. Also, because this is the portfolio’s most thinly traded stock, it could be just one big buyer. But to me it’s quite encouraging. HOLD.
Aphria (APHA)
Aphria is the largest Canadian holding in the portfolio, as it’s the biggest seller in Canada, and its stock is not as overvalued/overexposed as the mindshare leader, Canopy. Fourth quarter results featured revenues of $121 million, up 457% from the year before—but down 4% from the third quarter. And APHA’s action has been disappointing in recent days, as the stock has fallen right down to its low of last November. Clearly big investors have been getting out, and while the stock may find support right here (3.75) where it bottomed in November, I’m going to lighten up, too, selling a third of our position and downgrading the stock to Hold. HOLD.
Aurora (ACB)
Aurora Aphria, and Canopy were our first three Canadian stocks back in 2017, and while they’ve ridden the same waves since then, and we’ve taken out nice profits in all three, Aurora is now at risk of drowning, laying off employees and doing all it can to husband cash and regain the trust of investors. The big problem is that Aurora overbuilt, and the legal retail market wasn’t ready when expected. Still, the portfolio continues to hold a minor position in the stock—which is now 88% off its 2018 high, but if you’re losing your shirt in the stock, selling may be the appropriate course. HOLD.
Canopy Growth (CGC)
Canopy is both the most visible cannabis company in Canada and the most corporate, thanks to the presence of major investor Constellation Brands (STZ), which has increased its presence in the executive suite over the past year. Still, the stock is off 67% from its high of 2018, pretty much in line with the sector. But prospects are good! Two weeks ago the company released an excellent quarterly report, claiming a 22% share of the Canadian recreational market, and the stock spiked higher in response—though now it’s pulled back with the broad market. The best feature of this chart is the series of higher lows established since the November bottom. If you’re underinvested in the sector, you can nibble here. BUY.
Cresco Labs (CRLBF)
Chicago-based Cresco is a leading U.S. MSO (multi-state operator), with 21 dispensaries, 31 retail licenses and 18 production facilities in 11 states—as well as some of the leading brands in the country (Cresco, Remedi and Mindy’s edibles). And management is capable; two weeks ago, the company named former Molson Coors marketing executive Greg Butler as Chief Commercial officer. But the stock hasn’t been able to swim against the tide; it’s now off 66% from its high and down to its December low, pretty much where it started fifteen months ago. I’m downgrading to hold. HOLD.
Cronos Group (CRON)
Cronos is one of the smaller Canadian marijuana providers—though tobacco giant Altria owns 45% of the stock, so long-term prospects are good. But the positive pattern that I mentioned two weeks ago has disappeared, for two visible reasons. First is the general market weakness. Second is the news that the company will delay its 2019 fourth quarter and earnings release, previously scheduled for Thursday, February 27, because the Company has had a delay in the completion of its financial statements. Whatever the reason, it’s unlikely to be good, so I’m now downgrading the stock to hold. HOLD.
Curaleaf Holdings (CURLF)Massachusetts-based Curaleaf, which has 53 dispensaries in 14 states, was the biggest legal seller of marijuana in the U.S. in the third quarter but its stock has weakened with the rest, falling through support last touched in December and heading for its November low of 4.5. Fourth quarter results will be released after market close on March 24. , and will almost certainly show growth, but the action of the stock says CURLF deserves a downgrade to hold. HOLD.
Green Thumb Industries (GTBIF)
Chicago-based Green Thumb is a major MSO with licenses for 96 retail locations and operations across 12 U.S. markets, so it’s a contender for national leadership going forward. But it hasn’t escaped the market’s weakness and today the stock fell through the support level that launched previous advances in November and December. Fourth quarter results will be released on March 26, and while they should show growth the action of the stock merits a downgrade to hold. HOLD.
GrowGeneration (GRWG)
One of the portfolio’s best-looking stocks in recent months has been GrowGeneration, which operates the largest and fastest-growing chain of hydroponic and organic garden centers in North America (26 locations in nine states), all catering to commercial growers of cannabis. And today the company announced its first acquisition of 2020, and its move into Florida with the purchase of the assets of Healthy Harvest, which will add $12 million in annual revenues to the company. Like Akerna, GrowGeneration is a business that’s totally legal nationwide, and I like the diversification it adds to the portfolio. I also like the earnings prospects; the consensus earnings estimate for 2020 from analysts has now been raised to $0.22 per share. Two weeks ago when the stock was hitting new highs I suggested waiting for a pullback to the 25-day moving average (at least), which then was in the 5.0 area, and that opportunity arrived this week. BUY.
Innovative Industrial Properties (IIPR)
IIPR is another diversification play—which again is in a totally legal industry. And its stock has been the strongest in the portfolio in recent weeks, favored by investors looking for yield, safety, and a little exposure to the cannabis industry. Structured as a REIT, the company currently owns 49 properties located in Arizona, California, Colorado, Florida, Illinois, Maryland, Massachusetts, Michigan, Minnesota, New York, Nevada, North Dakota, Ohio, Pennsylvania and Virginia, totaling approximately 3.2 million rentable square feet, which were 98.9% leased to cannabis companies. Fourth quarter results will be released after the market close today, just after this issue is released. The full-year 2019 consensus of analysts has now been raised to $2.95, while for 2020 it’s $5.74. I’ll leave the stock rated buy, but note that based on today’s chart, an attractive entry point would be between 92 and 100. BUY.
Organigram (OGI)
New Brunswick-based Organigram is a smaller Canadian producer that has a lower profile, even though it’s practiced more prudent cash management than some of the big boys. Fiscal 2020 (ending August 31) earnings estimates have been lowered to $0.02 per share, while 2021 estimates have been raised to $0.11. And the stock is looking better, with a series of rising bottoms over the past seven weeks. If you haven’t bought yet, you can buy on this pullback. I’m upgrading to buy. BUY.
Planet 13 (PLNHF)
Planet 13 is a vertically integrated company that operates the world’s biggest cannabis store, located in Las Vegas, Nevada, and it has big plans to expand into California and eventually other tier-one markets nationwide. So if you think the best opportunities are in retail, where profit margins can be high, this may be the stock for you. Just beware the volatility, as the stock has the second-lowest trading volume and the third-lowest market capitalization in the portfolio. Last week brought some great upside volatility for no visible reason, and this week the stock has pulled back normally. HOLD.
Trulieve (TCNNF)
Trulieve is the market leader in Florida, with 45 medical dispensaries, as well as nascent operations in California, Massachusetts and Connecticut. But earnings estimates for the company have been slipping (analysts now expect $1.32 in 2019 and $0.66 in 2020), and even worse, the stock has just fallen through support at 10. We’ve been overweight in the stock, but I don’t think it deserves it now, as it looks like investors are selling and moving to greener pastures. Long-term, I think all will be well, but short-term, I think the cash can be better allocated. I’ll sell a third and downgrade it to hold. HOLD.
Turning Point Brands (TPB)
TPB blasted off this morning on big volume, and for good reasons. On Monday the Kentucky distributor of “Other Tobacco Products” as well as NewGen products like hemp and CBD and vaping products announced an 11% dividend increase and a stock repurchase plan. And last night the company released a “good” earnings report. Revenues were $80.2 million, down 14.9% from the year before (mainly due to the shrinkage of the vaping business), while adjusted diluted EPS was $1.86 compared to $1.79 the year before. Smokeless products accounted for 31% of revenues; smoking products (mainly papers) accounted for 34%; and NewGen products accounted for 35%. I’ve often told you that management here is experienced, and it shows in their reaction to the vaping crisis. As COO Graham Purdy noted, “The vape disruption drove profitability of the NewGen segment negative starting in September, which continued through November when we restructured the business. We have fully addressed the obsolete inventory issue associated with the accelerated PMTA (premarket tobacco application for the FDA) timing and newly announced flavor regulation. We simultaneously initiated a methodical restructuring effort to provide a clean runway for renewed growth. We have shrunk the vape business down to a flexible and profitable size as the industry consolidates.” The stock bottomed in November, set a higher low in early February, and is now heading up again. HOLD.
Watch List
Valens Groworks (VLNCF)
Valens is the largest third-party extraction company as well as a growing force in the business of white label product development and manufacturing, with top-tier client names such as BRNT, Shoppers Drug Mart and Iconic Brewing. The company currently offers a wide range of product formats, including tinctures, two-piece caps, soft gels, oral sprays and vape pens as well as beverages, concentrates, topicals, edibles, injectables, and natural health products. Last week Valens released an excellent fourth quarter report. Revenue was $30.6 million, up 86.0% from the third quarter. Revenue per gram of input was $1.25 compared to $0.61 in the third quarter. And adjusted EBITDA was $17.7 million, up from $9.8 million in the third quarter. Lastly, the firm had $58.7 million in cash and short-term investments at quarter’s end. VLNCF reacted well after the report—though it didn’t quite break out above its January high of 3.1—and now it’s pulled back in sympathy with the market, but overall, the trend is good.
The next Cabot Marijuana Investor issue will be published on March 25, 2020.
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