Ontario's Great Disrupter hits the cannabis market
As far as investors are concerned, Premier Doug Ford is rapidly emerging as Canada’s great disrupter.
First, he rattled the utilities sector by following through with his campaign promise to fire the CEO and board of directors of Hydro One.
The stock plunged to an all-time low of $18.57 on the day after the announcement was made and continues to trade well below its original issue price.
Now Ford’s government has socked the fledgling cannabis sector with the news that the retail sale of legalized recreational marijuana will be entrusted to the private sector and delayed until April.
Some industry experts think it will be even longer than that.
Shares in cannabis companies plunged on the announcement, which had been rumoured weeks before.
Canopy Growth, the largest Canadian producer by market cap, dropped to a low of $32.01 on Tuesday, down 13.5 per cent from the close on Aug. 10.
But what a difference a day makes.
On Wednesday, U.S. beverage alcohol giant Constellation Brands announced it was increasing its investment in Canopy by $5 billion by acquiring 104.5 million shares from the company at $48.60 each. Canopy stock recovered all its recent losses and more, rising over $10 to $42.20.
Such is life for investors in cannabis stocks. It’s been a wild roller coaster ride.
The Canadian Cannabis Composite Index, which tracks the performance of 16 leading producers and distributors, rose from 1,028 at the start of 2017 to a high of 3,465 on Jan. 9 – a gain of 237 per cent just over in two years.
On Tuesday, after the Ontario government announcement, it was down to 2,275, off 34 per cent from its high. But the Constellation announcement Wednesday propelled it back to 2,563, a gain of almost 13 per cent in a single day.
Whether investors have made or lost money in pot depends entirely on timing.
You could have bought Canopy Growth for $8.36 a share a year ago at this time. If you did, you’ve quintupled your money.
But if you bought at the peak in June, you’re still in the red, despite the boost from the Constellation investment.
This volatility is likely to continue for the foreseeable future. No one knows at this point exactly what the new recreational cannabis industry will look like or the size of the potential market. And more surprises are likely before it all shakes out.
Ontario’s decision to turn pot sales over to the private sector (the original Liberal plan was to sell recreational marijuana through the LCBO) will almost certainly ignite a rush to acquire desirable retail space, even before licences are handed out.
We have already seen this in Alberta, which announced months ago that pot sales would be privatized.
This is a high-risk gamble for potential distributors because the Ontario plan allows municipalities a one-time opportunity to opt out of allowing cannabis sales in their communities. That could leave would-be retailers on the hook for expensive leases if a large number of cities and towns decide they want nothing to do with weed.
Despite the uncertainty, many people believe it is worth the gamble.
A report by Deloitte released in June said Canadians are expected to spend $7.17 billion on cannabis products in 2019. Legal recreational cannabis would account for up to $4.34 billion of that, although that figure will probably drop given Ontario’s delay. The illegal market won’t disappear, but will shrink to $1 billion per year.
The report also found that legalization would probably create a change in the demographics of users with an increasing number of older people trying the drug (aged 35 to 54 versus 18 to 34).
New users will be better educated (university or graduate school education versus high school or college education), less of a risk taker and likely to consume cannabis less frequently (less than once a month versus several times a week.)
About two-thirds of customers will buy through brick-and-mortar stores (a boon for shopping mall owners stuck with huge empty spaces after the shutdown of major tenants such as Target and Sears). One-third will buy online. The Ontario government will hold that monopoly in this province, at least initially, opening an internet outlet when recreational pot sales become legal Oct. 17.
Although there is significant profit potential, only investors who have a high risk tolerance level should put any money here. Rather than focus on a single company, I suggest choosing an ETF such as the Horizons Marijuana Life Sciences Index ETF, which was launched April 2017 and has attracted almost $700 million in assets.
It tracks the North American Marijuana Index, which includes publicly traded companies from across the continent with an emphasis on Canada.
It should not be surprising that the fund’s performance reflects the same pattern we have seen in individual stocks. It was issued at $10 per unit, dropped to a low of $8.21 in June of last year and then took off to reach a high of $25.56 Jan. 9.
Since then it has been trading in the $14 to $20 range and was at $16.29 at the time of writing. Perhaps that’s a bargain, or it could be a falling knife, as investors become more aware of the many unresolved issues in the sector.
As one reader pointed out to me, this could be “the opportunity of a lifetime.” Constellation Brands seems to think so.
But if you decide to invest, make sure your tummy is strong enough to handle all the ups and downs that lie ahead.
Gordon Pape is editor and publisher of the internet Wealth Builder and Income Investor newsletters.