Cannabis is likely to be one of the fastest growing industries over the next five to 10 years. The State of the Legal Cannabis Markets report from Arcview Market Research and BDS Analytics suggests it's an industry that could see worldwide sales nearly quadruple from $10.9 billion to $40.6 billion between 2018 and 2024. Meanwhile, investment bank Stifel has a pie-in-the-sky global annual sales target of $200 billion in place in a decade.
But as investors, we also know that all hot investments suffer through growing pains. This can lead to an emotional roller coaster for investors that translates into cannabis stock share prices being far more volatile than the benchmark S&P 500.
How do we know this? An oft-overlooked metric known as "beta" measures a stock's volatility in relation to the market (often the S&P 500) over a defined time range. For example, a beta of 1 would signify a stock with similar volatility to the S&P 500. Meanwhile, betas of 0.5 and 2 imply companies with half the volatility and twice the volatility, respectively, compared to the S&P 500. The three most volatile cannabis stocks all sport betas that are, at minimum, 267% more volatile than the S&P 500.
HEXO: Beta of 4.68
Investors have thrown around Quebec-based grower HEXO (HEXO -0.74%) like a rag doll in 2019, with its share price rocketing to north of $8 in April, then hitting a 52-week low just two weeks ago of $2.28. On average, HEXO's monthly move over the past three years have been more than quadruple that of the S&P 500.
On one hand, HEXO's got a lot of long-term promise. It signed the largest provincial supply deal in history with Quebec in April 2018 that'll see it provide 200,000 kilos over five years. In terms of the company's forecasted output through 2023, this deal might account for 30% to 35% of total production.
HEXO has also done a nice job of pushing into the higher margin derivatives space. In August 2018, it formed a joint venture with Molson Coors Brewing, known as Truss, to develop cannabis-infused beverages. It also has an 80,000 kilo-in-aggregate extraction-services deal in place with Valens GroWorks that should yield resins and distillates that it can use in high margin derivatives.
On the other hand, HEXO went off the rails in October. Its updated fourth-quarter guidance reduced its sequential quarterly sales growth to 19% at the midpoint, down from a prior projection of close to 100%, while also pulling its 2020 revenue guidance. HEXO blamed the slow rollout of physical dispensaries in Canada, early stage pricing pressure, and the delayed launch of derivatives, for this weaker forecast.
What's more, HEXO also announced 200 job cuts last week, signaling just how serious supply issues have grown in our neighbor to the north. There's clearly a lot of concern and uncertainty surrounding HEXO over the near term, and it's become readily evident in the company's wildly vacillating share price.
CannTrust Holdings: Beta of 4.45
Not too far behind HEXO in the volatility department is embattled pot stock CannTrust Holdings (CNTTQ). With a beta of 4.45, it, too, has demonstrated more than quadruple the volatility of the S&P 500 over the past three years.
Heading into July, a serious value argument could have been made for CannTrust. The company had uplisted to the New York Stock Exchange earlier in the year, and inclusive of its announced outdoor expansion was looking at somewhere between 200,000 kilos and 300,000 kilos of peak annual production. This would make CannTrust a top-five grower in Canada, and its 100,000 kilos of hydroponic production should have given the company a modest cost advantage over many of its peers.
In July, the wheels fell off the wagon. The company admitted that it grew unlicensed marijuana in five cultivation rooms for a period of six months (Oct. 2018-March 2019) at its flagship Niagara facility. Shortly thereafter, with its sales license temporarily suspended while Health Canada continued its investigation, its CEO Peter Aceto was shown the door. It was uncovered that Aceto knew of this wrongdoing but did nothing to stop it.
In September, CannTrust learned its fate: an official suspension of its cultivation and sales licenses. This leaves open the door of getting these licenses back in 2020, but the path to this point won't be easy. The company recently announced that $58 million of this illicitly grown and sold weed would be destroyed, and it's also laying off 140 workers, at least temporarily, to account for the fact that it's not allowed to propagate new plants or sell product.
CannTrust has certainly taken its shareholders on a wild ride, and it might continue into 2020, with aggressive investors betting on whether CannTrust will get its licenses back.
Canopy Growth: Beta of 3.67
Just because Canopy Growth (CGC -0.57%) is the largest marijuana stock in the world by market cap, it doesn't mean it's immune to volatility. With a beta of 3.67, it's demonstrated more than triple the volatility of the benchmark S&P 500.
Aside from being the best-known pot stock, Canopy stands out as for a number of reasons. It'll probably slide in as Canada's second-largest weed producer, with more than 500,000 kilos on an annual basis. Having so much cannabis at its disposal, as well as 70,000 kilos of annual supply deals in place with all of Canada's provinces, is expected to make the company a long-term winner, at least in the eyes of optimists.
Canopy also sports the cushiest balance sheet in the industry, complete with more than $2.4 billion in cash on hand. Most of this cash was received from a $4 billion equity investment from Constellation Brands, which closed in November 2018.
Yet Canopy Growth has been a complete mess in recent months. Longtime co-CEO Bruce Linton was fired in early July, and current CEO (former co-CEO with Linton) Mark Zekulin will step down once a permanent replacement is found. This leaves one of the most popular pot stocks without a real game plan moving forward.
The company is also losing an exorbitant amount of money. Share-based compensation has shot through the roof in recent quarters, and it looks unlikely that Canopy has any shot of generating a recurring profit any time before 2021 or 2022. Plus, with $1.93 billion Canadian of goodwill on its balance sheet, a writedown is a very real possibility.
In short, don't expect Canopy's volatility to wane anytime soon.