Ask Our Experts 10/14/2018

Q: If cannabis stocks are in a market bubble, how can I protect my portfolio?

 

Investors are starting to believe that the cannabis industry is in a stock market bubble as prices continue to gain and make all-time highs. To put some of these in perspective, by the end of September seven of the top publicly traded cannabis companies (by market cap) had a one-year stock price performance of 200% or greater. It is more than reasonable to expect cannabis stock prices to eventually come down off their highs with potential sharp losses. More than ever, prudent investors ought to avoid emotional-based investing. Meantime, responsible investors need to prepare for increased volatility caused by regulatory changes, or related cannabis-market events.

As Canada prepares this week to become on Wednesday the first G-7 nation to formally legalize cannabis, and as related stocks continue to dominate major news outlets, investors may want to remain alert for potential risks and opportunities.

This past summer, the cannabis industry benefited from Constellation Brands’ (owner of Corona and Modelo) ~$4 billion equity investment in Canopy Growth Corp. Key private investments, along with major M&A deals, have contributed to the overall momentum of cannabis industry stock prices.

As recently as September 17, Coca-Cola announced their interest in entering the cannabis drinks market (specifically for CBD beverages), another major, market-moving event. As investors continue to profit from the industry’s steady rise, the company selection approach should focus on identifying quality business models that will survive potential market bubble-popping events.

Some tips to consider to better protect current holdings:

• One investment method for protecting gains is to simply take some profits off the table;
• Another strategy is to set up stop-loss orders to protect against falling stock prices; and
• Buying put options for current holdings is another common investment method, used as insurance for falling stock prices: In this case, the bet is that company stock prices will go down.

Researching individual companies is one of the most important steps for selecting strong companies. Analyzing company annual reports, and comparing key company metrics/ratios to other cannabis-related businesses within the same sector, can help with the selection process.

A potential bubble-popping scenario or major market sell-off event could occur at any time in the coming days, weeks, months, or even years. For cannabis stocks to continue to set new records and hit all-time highs, stock prices will eventually have to take a rest and come down before continuing to escalate. Investors should proceed to ride any wave with caution.

Disclaimer: Nothing contained herein is intended to constitute security or investment advice. New Frontier Data is not a liable party, nor is the company a licensed financial advisor.