You may remember the buzz and excitement among investors two years ago, ahead of the blanket legalization of cannabis in Canada. Now, two years later, we are standing at the other side of that excitement – wiser, and ready to learn from the full trajectory of cannabis stocks: from colossal high to epic fall.
Cannabis stocks crashed last year and it was widespread. Just look at the stocks of any cannabis company in the last six months, and you will see a dismal performance. Canopy Growth Corp plunged from $52.49 to $27.31. Aurora Cannabis (TSX:ACB)(NYSE:ACB) nosedived from $10 to $2.79. HEXO Corp crashed to $2.07 from $6.80. You get the point.
So, what to learn here? Let’s have a look at the three big takeaways from 2019’s cannabis stock crash.
Overvalued stocks crash sooner or later
We all know that every year or two a wave comes along with hyperbolic claims about being “the next big thing” in the market. From cryptocurrency to the blockchain to AI, we have witnessed many such fads in this century alone. I am not drawing any parallel here, but investors hyped cannabis stocks in a similar manner leading up to legalization in Canada.
This hype resulted in the overvaluation of nearly every cannabis stock. Aurora Cannabis became the most significant cannabis company in the country and went on to become the most sought-after stock in North America. After the sobering previous year, Aurora’s stock price is still 10 times its earnings. This price-to-earnings ratio was much higher six months ago.
As the high of cannabis legalization started waning, courtesy of the contrasting reality on the ground, the market maintained its order and “reset” cannabis stock prices.
Overproduction can kill stocks
Cannabis stocks are not retail stocks per se. However, the stock performance is hugely dependent on retail sales, and that is where the problem lies. Canadian demand for pot, in comparison to its production, was not as high as it was projected to be. Cannabis companies invested millions in farms, greenhouses, and storage facilities with this projection in mind.
Now these facilities are underused and only adding up to fiscal losses. The overproduction has affected Aurora Cannabis so much that it had to get rid of US$20 million worth of pot, cheaply.
Cannabis stocks are a good buy if you are in for the long term
Despite the bearish performance of the last year, the long-term viability and profitability of cannabis stocks can’t be ruled out. Compared to established industries that have been around for decades, the cannabis landscape is still in its infancy.
Once regulators fix their red-tape issues and cannabis companies get beyond “too good to be true” valuations, cannabis stocks will get out of their current bearish trend.
Summary
The crash of overvalued cannabis stocks was always on the cards, and was further aggravated by the lukewarm demand for legalized pot. But I think it has been a first big lesson for cannabis companies. With the legalized cannabis market spreading worldwide, one could easily imagine that the future of cannabis stocks is not that bleak.
