For more than three years, the marijuana industry has been showing investors the green. Fortunate investors who bought into what are today’s most popular pot stocks back in 2016 are likely up by a quadruple-digit percentage. And it’s possible this could be just the beginning, with Wall Street calling for a fourfold to sixfold increase in worldwide sales over roughly the next decade.
But as is common with every next-big-thing investment, there tend to be just as many skeptics as there are optimists. And right now, with Canada struggling with supply issues and California contending with a persistent black market, cannabis skeptics have a pretty strong case that the industry is overvalued.
Of the one dozen pure-play marijuana stocks that currently trade on either the New York Stock Exchange or Nasdaq, many of them experienced an increase in the aggregate number of shares held short between mid-May and mid-June. But three pot stocks, in particular, were especially targeted by short-sellers during this period…
HEXO: 44% increase in shares held short
The popular pot stock that saw the largest trailing-month increase in shares held short was Quebec-based grower HEXO (NYSEMKT:HEXO). My suspicion is that pessimists piled into HEXO after many of its peers reported disappointing quarterly results.
What you have to realize about HEXO is that, while it has plenty of extraction processing capabilities and plans to dramatically broaden its product line beyond dried flower, it’s highly dependent on dried flower and the recreational market for at least the next couple of quarters. Marijuana derivatives (e.g., edibles, topicals, vapes, infused beverages, and so on) aren’t set to hit licensed-store shelves until sometime in mid-December, at the earliest. In other words, with the recreational side of the weed market taking the brunt of the near-term supply issues, it pretty much guaranteed that HEXO was going to report dismal results in the third quarter.
On June 12, HEXO delivered its much-anticipated operating results — and they weren’t pretty. Despite a 1,184% year-on-year increase in sales, sequential quarterly cannabis revenue fell by 3%, with both recreational and medical marijuana revenue declining. The company’s loss also widened, if fair-value adjustments to biological assets are removed from the equation.
While it’s perfectly reasonable to expect this weakness to persist throughout 2019, changes being made at Health Canada to resolve some of the country’s supply issues, as well as the impending launch of derivatives, should provide positive catalysts for HEXO in 2020 and beyond.
IMAGE SOURCE: GETTY IMAGES.
CannTrust: 41% increase in shares held short
Not too far behind HEXO is CannTrust Holdings (NYSE:CTST), which has also been attracting a lot of interest from short-sellers. Between mid-May and mid-June, the number of shares held by pessimists rose by 41%. But unlike HEXO, which had one well-defined culprit, there were two catalysts that lured short-sellers to CannTrust.
First, CannTrust did itself no favors when the company reported its fiscal fourth-quarter results at the end of March. With most of Wall Street expecting CannTrust to have edged closer to operational profitability, the company instead reported a much-wider-than-expected loss, and announced that it would continue to spend in the interim to acquire up to 200 acres of land for outdoor growing purposes. With supply issues already impacting the industry, higher spending was the perfect catalyst needed for skeptics to become downright bearish over the near term.
The other issue for CannTrust is that the company filed a 700 million Canadian dollar shelf offeringin early March, then priced $170 million worth of shares (that’s in U.S. dollars) at the beginning of May for a nearly 15% discount to the previous day’s closing price. CannTrust needs capital to buy land, develop that land, and broaden its product portfolio ahead of the launch of derivative products. This means the very real potential of ongoing dilution to existing shareholders.
As one of those shareholders, I can attest that the past couple of months haven’t been much fun. Then again, I believe in the company’s longer-term vision and expect to see notable sales and margin improvements in 2020…
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