In our Jan. 8, 2018 report, we cautioned that "given the extraordinary increases in the past few weeks, we see a heightened risk of a healthy pullback." The sector (using the Horizons Marijuana Life Sciences Index ETF as a gauge) peaked the next day. The average North American cannabis stock is down 35 per cent since that date.
While no two corrections are the same, given the limited history of the cannabis sector, in this report, we compare the current experience to the April to June 2017 correction. In particular, we note that last year, the average stock was down 30 per cent during the 57 days between the peak and the sector trough.
While there are other factors at play (there are more companies and money in the system now, and recreational sales are now only six months away with several supply agreements announced), the fact that the average stock is down 35 per cent in the 49 days since the sector peaked suggests to us that we are likely much closer to the end of this pullback than the beginning. Accordingly, we recommend investors consider becoming more constructive in the sector. In particular, we highlight Village Farms, where we believe a major catalyst (licensing) is imminent.
Particularly given the plethora of recent greenhouse announcements, we are becoming increasingly concerned about the quantity of planned supply. While not all of these plans may ever be fully realized, and they will not affect supply initially, there is the potential for pricing to come under pressure a few years down the road. In such an environment, we believe firms will have to pick a niche and excel at it to be successful, while companies ‘in the middle’ may be disproportionately squeezed. On the low cost end of the spectrum, we highlight Village Farms, Sunniva and Aphria Inc. (APH-T, not covered). On the other end (premium pricing, distribution and global reach), we highlight The Supreme Cannabis Company Inc. (FIRE-V), MedReleaf Corp. (LEAF-T, not covered), Canopy Growth Inc. (WEED-T), Cronos and CannTrust. Hydropothecary is in the rare position of successfully straddling both the ‘low cost’ and ‘premium product’ niches.
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