As if pot stocks didn’t suffer enough pain already, this week they took a massive beating. Canopy Growth (NYSE:CGC) fell 15% just yesterday. Wall Street sold CGC stock in droves as they hated the earnings report. It’s down another 2% today in sympathy to the earnings drop Aurora Cannabis (NYSE:ACB) suffered. Year to date, the stock is down 50%, while the S&P 500 is up 25% and at all-time highs.
Today’s write up is to caution against catching the falling knife in Canopy Growth stock and all the cannabis stock cohort without careful consideration.
These may turn out to be falling machetes with tiny handles. And the brave bulls here could end up missing digits.
But for CGC, there could be some relief near $14 per share. The next significant level below it is $10.50 per share.
The gloomy warning is is nothing against the specifics of CGC, but the segment also has massive challenges, none greater than the regulatory environment. Yes, the legalization of cannabis on some of the state levels were tremendous steps forward, but it is still illegal in the eyes of the federal government. So pot companies will continue to face this headwind for at least another year. There is no imminent expectation of a change from Washington on that.
Fundamentally, Canopy Growth stock is not cheap. It still loses a lot of money and sells at astronomical multiples of its total revenues. So it needs a massive change to occur in order to set those metrics back in line with what Wall Street investors expect from a growth company. This is a lot to ask from a company who still has an interim CEO. It is safe to say that these companies won’t be on the 13-F from Warren Buffett’s Berkshire Hathaway anytime soon.
The thesis for cannabis applications is still viable. There is no denying that the world wants it. Mainstream companies are itching to offer cannabis infused products of all kinds. In addition to the traditional uses, edibles are already popular. Then there is the potential for “drinkables” as they are supposed to give beer and wine a run for their money. CBD-infused topicals are already very popular to an almost ridiculous level.
It’s not a magic potion, yet the public thinks it has healing powers for humans and pets. Unlike on Wall Street, the cannabis mania on main street is still high.
It Is Not Easy to Like CGC Stock
Critics of the cannabis segment make valid points and it’s up to the companies like CGC to prove them wrong. The legislation efforts may fade from here since the tax revenues have failed to meet expectations. The black market is still strong. It still is cheaper to trade pot through illegal venues thereby circumventing the state income.
As for the reaction to the CGC earnings, the experts are still split. The fans will continue to be fans and the critics will not change sides on this report. Management missed earnings and the sellers punished the stock hard. Investors didn’t care much for management saying that the challenges are short term. They also need to get the C-suite in order after a tumultuous year for them.
The bottom line is that beauty is in the eye of the beholder for Canopy Growth stock. It has nothing going for it now so it is easy to hate on it. But this is when the pool of sellers empties out and stocks find bottoms. It’s just not a hard line in the sand. Those who brave new long positions here should also use specific stops. I would prefer a test long near $14 because this is a stand out spike from mid November of 2016. It stood for a whole year before the bulls broke through it. These pivot zones usually provide support on the way down.
It is important to note that last night, ACB also reported earnings and the slaughter in pot stocks continues this morning. ACB confirmed a lot of the fears. While ACB medical applications were barely up year over year, their retail was cut by a third. They also announced efforts to fortify their balance sheet and this includes cutting back on expansions. They wouldn’t do that if things were looking promising. These are not signs of a growing industry. It looks more like an industry in crisis to justify its very existence. So buyers in CGC stock need to beware. Conviction in the trades here is medium at best.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. Join his live chat room for free here.
