Markets & Economy

Shares of newly IPO’d cannabis company Tilray went on a wild ride last week as the stock whipsawed between unbelievable gains and extraordinary losses. Having just IPO’d at $17 a share on July 19, the stock has been soaring since.

The euphoria peaked when trading was halted on four separate occasions Wednesday, September 19, en route to a startling 94% intraday gain.

Since then, the bottom dropped out amid aggressive selling. By Monday’s close, gains from last week had been totally wiped out. Shares stood at $99.50, still up 485% in just over two months.

Last week’s remarkable volatility accentuated what has been a heroic run for the cannabis industry. The ETFMG Alternative Harvest fund (MJ), an ETF that tracks the marijuana industry, is up more than 150% in just five weeks as investors poured in hundreds of millions of dollars that doubled the ETF’s size in less than one month.

The pot stock craze accelerated in mid-August when Constellation Brands made its most recent investment in Canopy Growth to the tune of $4 billion. Canopy is Canada’s largest medical marijuana producer, and the investment was seen as a big bet on the space from a major consumer company.

Constellation views cannabis as a “once-a-century” market transition that could be worth $200 billion globally within 15 years. Constellation CEO Rob Sands, whose company is already a major player in the beer, wine and spirits market, described cannabis as “the logical fourth leg” in the company’s portfolio. Since the investment, speculation has ensued on which major consumer goods company (e.g., Coca-Cola) would dive in next.

Source: Constellation Brands.

A loosening legal and regulatory environment has contributed to pot stocks’ rapid rise. Tilray’s ascent Wednesday came after the Drug Enforcement Administration (DEA) granted approval to import cannabis into the US for medical research. As of now, medical marijuana is legal for medical purposes in 30 states and Washington, D.C.

In addition to its medical purposes, public sentiment toward recreational marijuana has softened and legislation has followed. Colorado and Washington were the first states to legalize recreational pot in 2012, and seven more states have since followed suit. On October 17, Canada will become the first industrialized country in the world to legalize the sale of adult-use cannabis.

The political climate is also adding fuel to marijuana’s fire. Attorney General Jeff Sessions is a major opponent of legalized marijuana, and President Trump’s recent criticisms of Sessions has many in the industry wondering if a new AG could be good news for the sector.

The upcoming mid-term elections may also be a boon for cannabis. State-level policy is critical to the industry, and several gubernatorial races have the potential to swing pro-pot. Michigan and North Dakota are both voting on adult-use, and Utah and Missouri will vote on legalization. If adult-use expands to a total of 10 states, it would cover about 25% of the US population and 28% of GDP.

Although Tilray’s stock volatility appears to be moderating, that doesn’t mean the risk to investors is over. At Wednesday’s high, Tilray was trading at a valuation ratio of 680 times estimated 2018 sales of just $41 million. To put it in perspective, the hottest tech stocks don’t typically trade at multiples beyond 20-30x sales. By market cap, Tilray peaked at $28 billion, larger than that of major consumer packaged goods companies Clorox and General Mills.

Like the Bitcoin craze from late last year, the cannabis stock sector has been flooded by speculators more concerned with missing out on the next big thing than underlying stock fundamentals. When share prices are instead bid up by emotion rather than reason, bubbles form and investors get hurt.

With shares trading at extreme, speculative levels, we believe investors should invest with caution or avoid the pot stock craze altogether.

The data presented is for informational purposes only. It is not to be considered a specific stock recommendation.