A pet peeve I have is that many talking heads don't update their investment ideas on an ongoing basis.
I try to be transparent and honest about my winners and losers, and to further improve my own transparency/accountability I am going to regularly update my "Trades of the Week" at the end of each week, win, lose or draw.
So, let's start with this week's "Trade of the Week" - buying Canopy Growth (CGC) at $18.41/share.
To begin, as mentioned earlier this week, the Marijuana Moment newsletter is a great resource (and it's free!) for studying the cannabis space. The service, not surprisingly, is biased toward the cannabis industry, but nevertheless provides a lot of in-depth material every morning.
CGC has been an OK idea this week. Purchased at $18.41 a share on Monday the stock closed at $18.81 and was trading up another 3% in Canadian trading Thursday (our Thanksgiving Day).
Canada Cannabis
The month of November was a tough one for Canadian-based cannabis companies (e.g., CGC), with the average stock down 11% to 12%. Canadian cannabis stocks are down by about 75% year to date; valuation is one reason I am attracted to the cannabis stocks.
The proximate cause for the November Canadian cannabis weakness was weak profit reports:
1. Canadian retail store rollout continued weak, so top-line growth whiffed. 2. With so few outlets, recreational use missed consensus expectations. 3. Inventory backed up at distributors and many companies were forced to write off inventory (particularly with disappointing tinctures/oils and softgel products). 4. Companies lowered guidance for 2020 and the anticipated runways to profitability were questioned by investors and analysts. (I see a brighter future; see rationale below.)
Brokerage Canaccord Genuity noted:
"Although we expect more headwinds down the pipe with respect to wholesale bottlenecks, we note that adult-use September retail sales (which were issued in November) remain healthy, coming in at C$122.9M for the month, down a modest ~2.5% from seasonal summer highs, but nonetheless operating at a run-rate of close to C$1.5B. In our view, as we enter 2020 and provinces continue to open retail locations while additional product breadths become regulated, competition in Canada's "Cannabis 2.0" market could reignite interest in the space (once higher growth/margin products such as vape pens and edibles come into play). However, in the meantime, negative headlines continue to chip away at investor confidence, and we believe pressure on the space is likely to continue in the interim."
On the other hand, U.S. names performed better than their cousins to the North.
United States Cannabis
U.S. cannabis stocks rose by about 5%, on average, during the month of November. Two of my speculative stocks -- Curaleaf Holdings (CURLF) and Green Thumb Industries (GTBIF) -- performed much better after showing reasonably good sequential growth and continued profitability.
A spate of merger-and-acquisition deals helped the U.S. cannabis stocks. As well (and as noted below), November saw the House Judiciary Committee pass the Marijuana Opportunity Reinvestment and Expungement (MORE) Act -- a bill that is attempting to end federal prohibition of cannabis in the U.S. Though the bill still needs to come to the floor of Congress, when seen in conjunction with the SAFE Banking and STATES acts we can see a path toward the benefit of the industry.
Again, from Canaccord Genuity:
"Although we believe the US sector is much more catalyst-rich than Canada, we believe the anticipated need for additional capital injections into the US sector is a primary factor holding valuations back; in our view, the communication of funded capital plans by many of the leaders in the space will be required in order to quash investor concerns over the potential impact/risk of near-term dilution."
Here's What I Said About Canopy Growth on Monday
As a reminder, here was the case I made for CGC on Monday:
As subscribers know, until recently I have stayed away from a broad-based exposure in the cannabis industry over the last few years, for Canopy Growth (CGC) , which I thought would be a clear winner because of the imprimatur and the multibillion-dollar financial backing/investment of Constellation Brands (STZ) .
That was a mistake.
That said, I recently added substantially to Canopy and purchased a basket of speculative cannabis stocks after a 70% drop in industry share prices.
In the last week, CGC has traded as low as $14 a share and as high as $21.55.
The shares closed at $18.41 on Friday, down by nearly 70% from its 52-week high.
The industry in general and Canopy in particular have been taken down since early 2019, owing to:
* A very (ridiculously) slow rollout of retail outlets in Canada. * A large differential in the high-priced legal cannabis products as compared to what is available in the illegal markets. * Limited U.S. Food and Drug Administration (FDA) approvals for health-related cannabis remedies. * Restrictive bank laws facing cannabis companies. * Disappointing recreational use data. * Several states have raised cannabis taxes (most recently, California) * Weak share prices have resulted in continued and intense tax-loss selling.
In the extreme, a number of companies (such as MedMen Enterprises (MMNNF) , seen on the billboard above) are teetering financially.
On a positive note:
* Here on Monday morning Health Canada has approved a Canopy Growth beverage facility license. * A House panel has passed a bill to forward to the House to legalize marijuana in the U.S. * The 60-day Health Canada review period for the distribution of edibles expires mid-December. * Last week Ontario has agreed to put the distribution of cannabis products more in the hands of the private sector. * The Safe Banking Act, which will permit cannabis-related banking transactions, continues to move forward. * Almost every state is now being pressured to legalize the sale of cannabis products for recreational use. * The United Nations is moving toward ending decades of international cannabis prohibition. * I suspect a lot of the 2019 tax-loss selling has been completed. * Canopy is heavily shorted. Shorts total 55.5 million shares, up by 3.7 million shares (+7%) over the last month. This compares to average daily trading volume (over the last three months) of only 7 million shares. Shorts represent more than one-quarter of the float of 218 million shares. (There are 348 million shares outstanding).
Perhaps most important is that Ontario is now considering a change from the lottery system in rolling out retail stores, which could result in thousands of retail stores. This could serve to immediately resolve the demand/supply imbalance that has plagued the cannabis industry.
Going forward, I remain attracted to the speculative cannabis space in both Canada and the U.S.
'We Walked to the Brink and We Looked It in the Face'
I have been negative ("Peak Autos") regarding the outlook for the auto sector for more than four years -- having been short both Ford (F) and General Motors (GM) on numerous occasions. The worst is likely yet to come (both domestically and overseas). From Danielle Dimartino Booth:
The global auto sector slowdown is secular and began prior to the trade war; automakers are pressured to move bloated inventories and have pushed incentives to record levels in November, which sports the upcoming fifth weekend hoped to boost sales levels
Expect more record incentives in the coming months and further production cuts; the nosedive in the value of trade-ins will continue to bleed through to consumers' inability to afford a new car despite a renewed effort to loosen lending standards for subprime borrowers
Challenges in the supply chain are evident as auto supplier hours worked are falling at the fastest pace of the cycle; further production cuts, already down 4% over last year, will stress suppliers to a greater degree risking more bankruptcies in the sector
We've been here and done this, with the potential for graver consequences. In 1949, the Communist People's Republic of China defeated the Republic of China (ROC), bringing an end to the Chinese Civil War. Eisenhower resisted entangling the United States until we were embroiled in the Korean War. At that point, we gave Communist China an ultimatum. On January 29, 1955, both houses of Congress approved the Formosa Resolution authorizing Eisenhower to use U.S. forces to defend the ROC and its possessions in the Taiwan Straits against attack.
John Foster Dulles, Eisenhower's secretary of state, coyly posited that "The ability to get to the verge without getting into the war is the necessary art. If you are scared to go to the brink, you are lost... We walked to the brink and we looked it in the face." Adlai Stevenson, the Democratic candidate for president in 1952 and 1956 went on to criticize Dulles' "boasting of his brinkmanship - the art of bringing us to the edge of the abyss."
In the name of democracy (or a veto override) and buttressed by signs that the inventory rebuild is cushioning the economy, President Trump signed the bill backing Hong Kong protestors after the market closed Wednesday. It would seem he is trying his hand at brinksmanship, or in Detroit-speak, a high stakes game of chicken. Part of the president's bravado rests on the strength of that city's auto sector. Is Trump's confidence grounded in reality?
Rather than lean on the General Motors strike monkeying with the data, we've circumvented the muddied data by looking to a series less influenced by the disruption, beginning with anecdotes.
In what we suspect will ring familiar, car dealerships are taking desperate measures to lure prior customers to the showroom. And we're not talking about the barrage of sales pitches crowding our mailboxes and inboxes. It's the phone calls. The most extreme example: Once a week a voicemail on the home landline from a dealership at which we bought a car 20 years ago. (The car has been out of our possession for 10 of them!) That's as deep as a Rolodex dive gets.
How did we get to the brink? It's critical to understand that the turn in the global auto sector is secular and started well before the trade war. Based on production, the auto industry last contracted in September 2017. We suspect that trend would have deepened had the devastation wrought by Hurricane Harvey not required upwards of a million cars be replaced. After ripping higher to a 7% pace in the spring of 2018, sales have zig-zagged their way to a flatline.
November is expected to be a blowout month as it contains an extra weekend, the one we're headed into. It had better be good. After holding the line for nearly a year to pad margins, automakers have capitulated, offering record-breaking incentives of $4,538, surpassing December 2017's prior peak of $4,378.
J.D. Power's Thomas King predicts more records in coming months given crushing inventories: "This is concerning for the health of the industry when combined with rising sub-prime sales, which are growing at the highest rate since August 2018."
Used car pricing suggests the worst is yet to come. In a report released Tuesday, Black Book's Anil Goyal warned that, "Used-vehicle values continue to decline steeply. In the last three weeks, vehicles have depreciated at the highest rate seen this year." The latest Manheim data saw used car prices turn negative over the prior year for the first time in 33 months. A proprietary data source QI has long followed shows used car supply up 12.07% over the prior 12 months vs. 0.14% at this time last year. The pressure on trade-in values will make it that much harder to move new cars off lots.
While used car dealer hours worked are still positive, the stress down the chain at auto suppliers suggests pink slips will follow. Since January, auto supplier hours worked have fallen by a monthly average of -5.2% and two auto suppliers have declared bankruptcy. This is no GM strike effect.
Punctuating the trend, King added, "Auto suppliers are feeling even more pressure as inventory corrections and mix adjustments are being managed through a more pronounced slowdown in production levels. North American production is expected to decline nearly 4% to 16.3 million units in 2019. This overall uneasiness is causing a pullback in investment and decision-making, which risks turning into a self-fulfilling recession prophecy."
Though not depicted in today's chart, October month-on-month new car sales fell by -4.4%. No doubt, Detroit executives are banking on Mother Nature doing her part this weekend to bring out the buyers whose wherewithal looks increasingly exhausted. The alternative would bring Motor City to the brink...again.
