The story of Canopy Growth (NYSE:CGC) hasn’t changed. However, the expectations surrounding CGC and other cannabis stocks have changed. The obstacles to profitability (i.e., regulation, lack of access to traditional banking, etc.) that existed two years ago still exist today. But what’s changed? For many investors, it’s the eye test.
In an age of data and analytics, I’m a statistics skeptic. My marketing background tells me people use statistics to support either — and sometimes both — sides of an issue. I’m also a big fan of the National Football League.
So, during the data dump that precedes the NFL draft, I love the “blind resume” segments. This is where analysts anonymously display the statistics, or resumes, of two players side by side. The purpose is to show that talent evaluation has to go beyond statistics. Players must pass the eye test.
With Canopy Growth Stock, Beauty Is in the Eye of the Beholder
A version of the blind resume for Canopy Growth stock could look like this:
- If you had bought 100 shares of CGC stock on January 2 of this year, your investment would be down about 14%.
- If you had bought 100 shares of Canopy Growth stock on September 27, 2018, your investment would be down by almost 50%. Ouch.
- However, if you had bought 100 shares of Canopy on December 31, 2015, those same shares would have increased in value by about 1,200%.
Was Canopy a good stock at the end of 2015, but is a bad stock now? Are the issues really any different? Or have the expectations changed?
My guess is the weight of elevated, and perhaps unrealistic, expectations is weighing on CGC stock. These expectations are putting the focus on the obstacles to profitability.
The Industry Is in a Consolidation Phase
One of the primary obstacles in the cannabis industry is an oversupplied market. Some of this is to be expected. In a “mania” sector like cannabis, many small growers started cultivating marijuana because of the belief that if they planted it, the consumers would come.
That hasn’t materialized. And many small growers are discovering they can’t get the price per gram down to a profitable level. The result is many small players will go out of business. But this is what happens in emerging markets. After the initial exuberance wears off, the industry begins to consolidate.
In addition to consolidation, cannabis companies have gotten the attention of large companies who are looking for ways to partner with and profit from the cannabis trend. Constellation Brands (NYSE:STZ) jumped in by pumping billions of dollars into Canopy. This in turn brought more speculative dollars into Canopy.
But when a major player like STZ enters the arena, the expectations for profitability increase as well. So now, STZ and other institutional investors start looking beyond the hype and start asking if CGC is overvalued.
Regulation Brings Short-Term Pain for Long-Term Gain
Another obstacle for Canopy and other cannabis stocks is regulatory approval. Even the biggest cannabis bull didn’t expect cannabis to hit the market with no regulation. In fact, the industry welcomes regulation. What may not have been expected is how long the regulatory process would take.
In October, Canada will finally complete the regulatory process which will usher in cannabis 2.0. This is the period where the industry will begin to sell a range of CBD-infused products. Obviously, this is significant from a revenue standpoint. However, the psychological impact cannot be ignored.
For cannabis to become legalized at the federal level in the United States, legislators are looking for a case beyond medicinal use. Currently, many people associate recreational marijuana with smoking. But if CBD products safely move into the mainstream, it would pave the way for full legalization.
What’s Next for CGC Stock?
An analyst’s responsibility is to register an opinion about whether investors should buy or sell a stock at a given moment of time. At least two analysts have come out with bearish forecasts. John Zamparo of the Canadian Imperial Bank of Commerce is forecasting significantly less growth for the cannabis industry. And Rupesh Parikh of Oppenheimer predicts Canopy will lose more than $500 million between now and March 2021.
With that in mind, I can’t disagree that this may not be the best time to buy CGC stock. However, I’m a believer in the “super theme” of cannabis. Cannabis stocks are perceived as speculative. But the reality is a little different. Cannabis is not just a theoretical reality. It’s a story that is only starting to be told. And cannabis 2.0 will bring a variety of CBD-based products that will change the narrative yet again.
How you view an investment in cannabis today depends in large part when you got into it. Investors who got into Canopy Growth prior to the stock reaching the mania phase have to ask one question: do they see the stock falling back to penny stock levels?
If not, then it’s probably best to hang on and enjoy the ride. However, if you haven’t staked out a position, don’t fight the trend. If you believe in the long-term story, there will be another time to jump in.
As of this writing, Chris Markoch did not hold a position in any of the aforementioned securities.
