Has the Cannabis Bubble Popped?
Has the cannabis bubble popped? Stocks are down, funds are drying up, and balance sheets are messy. Assets managed by cannabis funds are down by 45% in twelve months. They’ve reportedly lost $2.6 billion from $4.6 billion the previous year.
Morningstar, an investment research firm, provided the data.
Investors blame a popped cannabis bubble on several factors. First is the repeated failed attempts to pass federal legalization legislation in the United States. But funds focused on legal cannabis markets have also dropped. Data shows that 23 ETF funds have lost between 44.2% and 72% over 12 months.
Investors are seeing inflows dry up as well. In the first three months of 2022, they invested $95.6 million into cannabis funds, compared to $1.7 billion the year before.
However, last year’s activity may have had to do more with new listings on the London Stock Exchange. In the first five months of 2021, Oxford Cannabinoid Technologies, Kanabo Group, and MGC Pharmaceuticals doubled the size of the cannabis market.
Of course, like the rest of the sector, shares in these groups have dropped by 60% and 80%. Canadian LPs have faired a little better, but they’re still down over the same period. Aurora Cannabis is down 57%, Canopy Growth is down 74%, and Tilray is down 68%.
Putting Their Faith in Joe Biden
Performance for cannabis funds doesn’t seem to follow any fundamentals, however. At the tail-end of 2020, cannabis funds picked up when media conglomerates declared Joe Biden the winner of the US presidential election. Funds rose further toward the inauguration when investors assumed the Democrats would make cannabis legalization a top priority. As well as passing legislation to make it easier for cannabis companies in the US to access the banking sector.
“Everybody is watching that one data point right now,” says Nawan Butt, manager of the Medical Cannabis and Wellness ETF. “Whether or not the Senate can pass the SAFE Act, which is expected to go through the Senate. If the SAFE Act gets passed, that will allow financial institutions to start helping the industry. This essentially means that industry participants will get better access to financing and better access to financial services. As well as, we’ll finally have investors in this space who aren’t afraid to be persecuted under federal laws for holding cannabis stocks.”
Blaming Consumers for A Popped Cannabis Bubble?
According to Morningstar figures, Global X is the worst performing cannabis ETF. Alec Lucas, research analyst at Global X, blamed consumers for pursuing “cheaper cannabis options sourced from illicit markets, which has contributed to slowing sales in markets such as Colorado, Illinois, Massachusetts, and Pennsylvania.” Adding, “Canadian companies have been unable to lift prices so as to remain competitive with illicit markets, leading to disappointing earnings.”
However, the truth may be more complex than consumers preferring legacy markets over pharmaceutical-grade cannabis.
Ethanol prices are up 35%, and this affects entrepreneurs using ethanol as a solvent for cannabis derivatives. Higher gas prices also strain margins for cannabis delivery services, including wholesale supply.
Easy Money At Fault for Popping the Cannabis Bubble?
The cannabis bubble may be popping because the era of easy money is coming to an end. Central banks worldwide are attempting to lift interest rates after over twenty years of keeping them near zero. Many economists suggest this manipulation of interest rates acts as an unnatural price control on the money supply. The result is a capital market that divorces itself from consumer demand.
In other words, market interest rates reflect consumer demand and the relative scarcity of capital. A central bank lowering interest rates below its market rate creates an illusion of more prosperity and, thus, the funds to realize long-term projects. However, as we’re discovering now, printing more money doesn’t create more resources. Banks and governments can blame supply chain disruptions on COVID or the Russians, but evidence points to monetary policy, namely easy money, being at fault.
An economy flush with easy money explains how Canada’s cannabis bubble grew to unprecedented heights. Large LPs are cash flow negative, and they have trouble competing with the legacy market and smaller craft producers. Despite their popularity in the financial world, the fundamentals are not there to support their business model. And with large LPs shutting down facilities and firing employees, it’s becoming more apparent every day that the cannabis bubble has popped.
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