It's high times for the marijuana industry.
Cannabis stocks have surged recently, flying higher starting Aug. 15, when Constellation Brands (NYSE:STZ) said it would invest $4 billion in Canadian marijuana grower Canopy Growth Corporation (NASDAQ:CGC). The move signaled that more such tie-ups could come, and as the chart below shows, cannabis stocks have been off to the races since then.
Four of the five biggest marijuana stocks, including Canopy, Aurora Cannabis (NASDAQ:ACB), and Aphria (NASDAQOTH: APHQF), have all more than doubled, while shares of Tilray (NASDAQ:TLRY) have absolutely skyrocketed. Tilray's gains have come in part because of its unusually low float and heavy short interest -- and because the pot stock was the first to list directly on an American exchange when it had its IPO in July.
The sudden gains in Tilray and other cannabis stocks have caused some commentators to deem the marijuana sector a bubble. In fact, two of my colleagues have argued just that here and here. There's no doubt that the sudden rise and euphoria over marijuana stocks is reminiscent of past bubbles, like the one in cryptocurrencies last year. After all, marijuana valuations have become divorced from any trailing fundamentals as the sector is essentially being valued like an early-stage biotech, though that's likely to change once the recreational market in Canada opens on Oct. 17.
Whether or not marijuana stocks turn out to be a bubble depends on a number of factors, including if and when it becomes legal in the U.S., how it is embraced by the medical community, and if the industry consolidates. However, there's one big signal that's just emerged that indicates the marijuana boom may be sustainable. That is the attention and investment of consumer products giants.
A little history
Constellation Brands, which manufactures and markets beer, wine, and spirits, and is best known in the U.S. as the distributor of Corona, became the first major consumer-goods company to make a deal with a marijuana producer when it took a minority stake for about $200 million in Canopy Growth a year ago. At the time, Constellation said the two companies would exchange knowledge and expertise, and the company expressed interest in eventually making cannabis-based beverages.
In a clear signal that Constellation liked what it saw, the Corona-maker took a 38% stake in Canopy in August, investing $4 billion into the pot grower. Constellation CEO Rob Sands explained the move, saying:
Over the past year, we've come to better understand the cannabis market, the tremendous growth opportunity it presents, and Canopy's market-leading capabilities in this space. We look forward to supporting Canopy as they extend their recognized global leadership position in the medical and recreational cannabis space.
In Constellation's recent earnings call, Sands further outlined the company's strategy with Canopy, saying he saw a market of hundreds of billions of dollars evolving over the next decade and that Canopy gave the company a single platform to tackle all global markets and formats.
Constellation isn't the only brewer to target marijuana. On Aug. 1, Molson Coors (NYSE:TAP) announced a joint venture between Molson Coors Canada and Canadian cannabis grower HEXO Corp. (NASDAQ:HEXO) to "pursue opportunities to develop non-alcoholic, cannabis-infused beverages for the Canadian market following legalization." Molson Coors Canada will have a 57.5% share of the joint venture, and CEO Frederic Landtmeters said of the deal:
While we remain a beer business at our core, we are excited to create a separate new venture with a trusted partner that will be a market leader in offering Canadian consumers new experiences with quality, reliable and consistent non-alcoholic, cannabis-infused beverages.
While there have yet to be any other tie-ups between global consumer product makers and marijuana growers, a number of big-brand companies have discussed teaming up with pot suppliers. In September, Coca-Cola (NYSE:KO) held talks with Aurora Cannabis, according to Bloomberg, and although the company didn't acknowledge any discussion, it did express interest in cannabis-based beverages. In a statement, the soda giant said, "We are closely watching the growth of non-psychoactive CBD as an ingredient in functional wellness beverages around the world."
Diageo (NYSE:DEO), the global alcohol giant that owns Guinness beer and Smirnoff vodka, has held discussions with at least three marijuana growers, though it has yet to make a deal, and Heineken's (OTC:HEINY) Lagunitas brand launched a THC-infused beverage back in June, which is currently available in California dispensaries.
It's not just beverage companies that are getting into the mix. Tobacco giant Altria (NYSE:MO) was said to be in talks to acquire a stake in Aphria, according to Canada's Globe and Mail, and there are good reasons to believe that other tobacco companies could follow suit. Even Walmart's Canadian division said it was exploring selling cannabis products.
Why it matters
Bubbles tend to be caused, above all, by speculators. The asset in consideration gains momentum as investors are attracted to an opportunity, but eventually, the valuation escapes underlying fundamentals due to speculators pushing up the price under the assumption that a buyer will always come along. For instance, day traders helped fuel the dot-com bubble; home flippers contributed to the housing bubble a decade ago; and the rise of Bitcoin and other cryptocurrencies just last year attracted plenty of speculators who spotted the sudden rise of the new asset.
While there are certainly some speculators and short-term-minded investors trading marijuana stocks, global companies like Constellation Brands, Molson Coors, and Coca-Cola are clearly not among them. They're investing in marijuana companies, or at least considering it, because they see a long-term opportunity in that market, and as more pot growers find a dance partner from big beer, soda, or tobacco, the likelihood of a "bubble" bursting is significantly diminished. Billion-dollar investments from Constellation and others give the industry credibility, access to cash for expansion, marketing and distribution acumen, and other advantages that make their long-term success more likely.
And clearly there's a real opportunity, here. Canadian legalization is expected to generate $5 billion to $7 billion in revenue over the coming year, and the opportunity should only grow from there.
Valuations are certainly steep, but the companies who know best are willing to pay up for them. That should offer some assurance to marijuana investors who may be worried that their shares will eventually go up in smoke.