This article is excerpted from Tom Yeung’s Moonshot Investor newsletter. To make sure you don’t miss any of Tom’s potential 100x picks, subscribe to his mailing list here.
Inflation Is Scaring Investors
Last week, I visited some family friends for their granddaughter’s christening.
The conversation eventually turned to investing.
“What inflation-proof investment can I give my granddaughter?” one asked.
“Real estate,” I blurted out. Then, realizing they probably weren’t looking to buy their 6-month-old a house quite yet, I immediately followed up…
“…or Series-I Savings Bonds!”
The couple would settle for the latter, and I would walk away with this: No matter their age or wealth, Americans are fearing inflation once again.
The worry is perfectly understandable. Five years of 7% inflation turns $100,000 into the equivalent of $71,300. Ten years of the same will shrink it to $50,800. It’s unsurprising that investment experts are starting to call cash “a melting ice cube.”
Worse still, alternative places to park your money are also becoming harder to find.
But if you’re also worried about inflation, I have some good news. And it doesn’t involve Series-I Bonds or watching ice cubes melt.
That’s because today’s Moonshot newsletter covers a company that pays a 15% dividend yield — and grows 45% annually.
Impossible, you say?
Not in the Moonshot world.
The Little Cannabis REIT That Could
In 2017, Fifth Street founder Leonard Tannenbaum sold his $6 billion fund to Oaktree Capital Management.
“I am more confident than ever that now is the right time to take this step,” said Mr. Tannenbaum. “Oaktree’s expertise and long-term investment approach should provide enhanced returns for the BDC shareholders going forward.”
It turns out Mr. Tannenbaum had plans of his own. Within three years, the financier had started a new venture with a simple premise:
What if you could bring Wall Street capital to the cannabis industry?
The Business of Making Money
The Wall Street financier had created a compelling business case. Federal laws prohibit national banks from working with legal cannabis companies, leaving a Wells Fargo-sized hole in the industry. Any marijuana startup needed to navigate a patchwork of local credit unions or use sale-leaseback schemes to secure initial funding.
AFC Gamma (NASDAQ:AFCG) changes that.
By establishing itself as a special-purpose REIT, AFCG has sidestepped banking laws to become the first “legally listed lender in cannabis” on a U.S. exchange. In practice, it now resembles a business development company (BDC) making loans at a 12% cash interest rate. Balloon payments eventually turn these loans into a 19% total yield.
That’s created a win-win situation for investors and marijuana firms, despite the seemingly high rates. In a fast-growing market like cannabis, it’s often worthwhile to take expensive financing to dominate an untapped market. Venture Capital firms have long used the same first mover advantage strategy to propel tech firms to dominance.
In a sense, Mr. Tannenbaum was the ideal person to spearhead this high-growth business. He had already built Fifth Street into a significant direct lender. And his deal-making prowess meant AFC Gamma already had $560 million in its pipeline by the time he filed its IPO documents.
The team also benefits from a first-mover advantage. The company rejected 362 of the 377 deals it explored, and its loan portfolio has a well-diversified mix of longer and shorter-term contracts. To date, AFCG has suffered no significant loan losses.
High Growth Meets Deep Value
But for Moonshot investors, one metric stands out beyond all the rest:
AFC Gamma is impossibly cheap for a company growing at 45% per year.
The cannabis lender now trades for just 0.9x price-to-book, a ratio more commonly seen among REITs in zero-growth industries. By comparison, REITs in higher-growth sectors like data center lender Digital Realty Trust (NYSE:DLR) trade at 2.8x price-to-book or higher.
Once you consider AFC’s growth potential, the picture becomes more absurd.
AFC Gamma’s high growth rate means it will likely earn around $70 million in funds from operations (FFO) this year, giving the firm a 2022 P/FFO multiple of 4.4x and a 2023 P/FFO multiple of 2.5x.
Most REITs trade between 16x to 20x.
Finally, AFC Gamma is a surprisingly low-risk bet. The company has negative $12 million in net debt, making it one of the least leveraged REITs. Even if half of the company’s loans go to zero, AFCG could still technically survive.
The Risks of AFCG
An investment in AFCG however, does come with several risks.
Firstly, marijuana regulations can change. The SAFE Banking Act could open the cannabis business to traditional lenders, denting AFCG’s sky-high yields. And though AFC Gamma’s CEO claims that the SAFE Act would also benefit AFCG with lower debt costs, the added competition would remain a net loss.
Secondly, Mr. Tannenbaum has a checkered history with fees. In 2018, the SEC sent a cease-and-desist order to Fifth Street, alleging that the firm had improperly allocated expenses to its former BDC clients. Under a settlement, Fifth Street neither admitted nor denied the allegations; Oaktree would nevertheless wind down the subsidiary. AFC Gamma’s fees remain relatively high, even for the REIT industry.
Finally, there’s negative momentum. Shares are down nearly 30% from the start of the year as flattening yield curves have squeezed financial firms.
Nevertheless, Mr. Tannenbaum seems to have learned from many of his past mistakes. AFCG is unusually well-capitalized, and its generous dividend structure points to better financial responsibility this time around.
Valuation also matters. Investors buying in at 0.9x book value have strong downside protection, especially given AFCG’s high-quality loan portfolio. The company could wind down today and still leave holders with a slight upside.
The markets don’t give us Moonshot bets like this very often. And when they do, it’s wise to take a closer look.
What About Bitcoin?
Moonshot investors often turn to Bitcoin (BTC-USD) as a “safe haven” bet.
On Tuesday, wealth management firm Fidelity Investments joined the chorus. Investors can deposit up to 20% of their 401(k) accounts into crypto as soon as this summer.
“We clearly have different views than the Department of Labor in terms of the guidance they’ve issued,” said David Gray, Fidelity’s head of workplace retirement products and platforms. “We believe they should withdraw that guidance.”
I can already hear younger investors cheering. Around 60% of millennials already own cryptocurrency, according to the annual Financial Literacy Study published by Investopedia. Holding these digital assets in a tax-advantaged account will magnify gains.
But Fidelity may have already missed the boat. Another 10x return would make Bitcoin worth five times more than all U.S. dollars. A 100x return would value Bitcoin more than the entire U.S. stock market.
Fidelity will doubtless make money by offering Bitcoin trading to more customers. But for everyday investors, it’s not as straightforward of a win.
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On the date of publication, Tom Yeung did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Tom Yeung, CFA, is a registered investment advisor on a mission to bring simplicity to the world of investing.