Canadian cannabis stocks are still mostly trading in lockstep as the sector continues to evolve, increasingly frustrating investors who are waiting for a leader to emerge from the group.
Even early signs of profitability at some producers haven’t been enough to shake the winners from the losers.
“If you are investing in the space you are going to live and die by the sword of the broader sentiment in the market,” said Richardson GMP portfolio manager Chris Kerlow.
That was on display this past Thursday, after the largest producer by market capitalization, Canopy Growth Corp., reported a decline in net revenue and a $1.28 billion net loss for its most recent quarter.
Though most of that loss was attributable to a one-time non-cash charge related to changes made to a class of warrants, the operational component helped drive Canopy’s shares down more than 14 per cent to $36.41. And with it, the rest of the sector was dragged down as well.
It meant little to the market that Aphria Inc., Village Farms International Inc., MediPharm Labs Corp. and Organigram Holdings Inc. had each posted positive adjusted EBITDA and, with the exception of latter, net income in their most recent quarters: Their shares prices all fell, dipping between seven to nine per cent.
The drop was the latest leg in the sector’s lengthy decline, which has seen the benchmark North American Marijuana Index fall more than 30 per cent since reaching its 2019 high on March 22. In that time, six of the index’s Top Ten names have posted losses between 33 and 38 per cent.
While the sector had once traded solely on potential, the decline has come as investors have been shifting their focus to the fundamentals.
Purpose Investments portfolio manager Greg Taylor believes licensed producers will continue to trade as a pack until some prove they can post multiple consecutive profitable quarters.
“We need to have more than just one good quarter of separation; we need to create a trend,” Taylor said.
There are early candidates to break out and play that role, Taylor said. He’s looking outside of Canada for a leader and believes it could be Curaleaf Holdings Inc. The Massachusetts-based LP is at the forefront of the U.S. cannabis sector and its stock has already showed signs of being able to decouple from the sector.
One example came when Curaleaf acquired GR Companies Inc. on July 17. Its stock closed more than 17 per cent higher, when acquisitions usually result in the purchasing party trading lower on the day, Taylor said. Curaleaf was also able to make those gains on a day when the North American Marijuana Index only gained one per cent. Still, it closed more than six per cent down at $8.75 on Thursday.
Given the correlation between the names, Kerlow suggests investing in an ETF that passively tracks the sector as whole.
We need to have more than just one good quarter of separation; we need to create a trend.
The only problem is, If most of the companies in the ETF trade in-line, investors might not be receiving the diversification benefits that usually draw them to ETFs in the first place.
Correlation data shows the Horizons Marijuana Life Sciences Index ETF is highly correlated with Canopy, which has the highest weighting in the ETF basket. But as Horizons CEO Steve Hawkins said, the ETF is also comprised of companies that aren’t traditional cannabis producers and do not trade as part of that sector.
Hawkins pointed to Scott’s Miracle-Gro Co., a fertilizer company that also serves the cannabis industry, and Innovative Industrial Properties Inc., a cannabis REIT. Charlotte’s Web Holdings Inc., a U.S.-based CBD company, only IPO’d in September but has also bucked the trend of the Canadian producers. All three companies have seen double-digit returns in the market since March 22, but their weightings weren’t strong enough to keep the ETF from losing 32 per cent in that period.
The wait for a sector leader to emerge is part of the industry’s maturing process, Hawkins said. For now, he said, no company is powerful enough.
“I don’t think there’s one company that could stand up to the force of the negative news waterfall effect on the entire sector,” he said.
Copyright Postmedia Network Inc., 2019