Cannabis Investor and Expert Alan Brochstein, CFA,
Talks about the Evolution of the Sector; the Risks and Opportunities
“I believe that
there was a landmark revelation in Spicer's comments that people may be
overlooking” - Alan Brochstein, CFA
Point Roberts, WA, Delta, BC – March 6, 2017 –
Investorideas.com, a global news source and investor resource covering actively
traded sectors including cannabis and hemp stocks features an exclusive
interview with Alan Brochstein, CFA. Alan is a well-known expert in the sector
and founded 420 Investor, a subscription-based due diligence platform for
investors interested in publicly-traded cannabis stocks.
Alan talks about the evolution of the sector and
some of the short and long term risks and opportunities.
Alan Brochstein, CFA
Interview
Q: Investorideas.com
Alan can you share your background and what drew
you to the cannabis sector?
A: Alan Brochstein, CFA
My entire thirty-year career has been in the
investment industry, with most of it in equity analysis and portfolio
management. In 2013, when I was running an independent equity research and
consulting practice and working with a handful of institutional money managers,
I stumbled upon the publicly-traded cannabis stocks and was surprised on a
number of fronts. First, just the fact that there were publicly-traded stocks
was quite a shock. Second, it didn't seem as if investment professionals were
aware. Third, and most importantly, I was disappointed when I looked at these
few stocks to see such terrible fundamentals, high valuations and poor
corporate governance practices. Quite simply, these companies didn't really
reflect the industry. As a teenager who was very involved with the Libertarian
Party back in the 80s, cannabis legalization was a big issue for me, but I had
really not been paying attention for over twenty years to the progress that was
being made. Over the balance of 2013, I devoted a great deal of time to
catching up and learning about the social justice, economic, civil liberties
and health issues surrounding cannabis legalization.
Q: Investorideas.com
How would you break down the past few years in
terms of the evolution of the sector and in particular, the impact of the last
election in terms of legalization in several new states?
A: Alan Brochstein, CFA
The sector has evolved slowly. I joke that I goofed
when I named my service "420 Investor" and should have called it
"420 Trader". I track about 450 companies in North America, a number
that keeps growing. Most of these companies are either stock selling schemes or
just not likely to succeed. The
tremendous recent progress of the industry is a two-sided sword, as on the one
hand, it represents a fundamental opportunity that attracts investors. At the
same time, it also attracts opportunists looking to prey on that investor
interest. Hence, the market has been one more appropriate for traders of penny
stocks rather than investors.
The legalization of Colorado set off a tremendous
bull market in the few stocks that were in existence then (back in early 2014),
even if the companies weren't ever going to benefit from what was going on in
Colorado. Both the Colorado and Washington implementations went reasonably
well. While the industry continued to expand, adding Oregon and Alaska to the
states that had fully legalized as well as dramatically expanding the number of state-legal medical cannabis programs, the
stocks suffered for two years following that early 2014 move where the typical
stock went up over 600% in fewer than three months. The recent elections, which
doubled the number of "recreational" states, including the addition
of California and Massachusetts especially but also Maine and Nevada, brought a
lot of interest to the sector, which recently posted levels not seen since
early 2015, as measured by the 420 Investor Cannabis Stock Index.
Unfortunately, we are seeing some of the same opportunism among penny stock
promoters and newsletters that we saw back in 2014, but at the same time, we
are seeing some new entrants in the sector that better reflect the industry in
terms of having sales, for example.
We have reached an inflection point, in my view.
Recently, two companies announced that they will soon offer Exchange-Traded
Funds (ETFs) for the cannabis sector, and there is also a mutual fund. While I
find these investment vehicles to have fatal flaws, it shows that there is
demand.
Yes, there remains way too much noise in the
sector, but I recently launched my fourth model portfolio that reflects my view
that investors now have options for long-term investing. My "420
Quality" model portfolio will include these names and is not going to be
trading-oriented.
Q: Investorideas.com
When you look at the Canadian market and the
publicly traded stocks and the US stocks and market, what are some of the
biggest differences in terms of risk and opportunity in each?
A: Alan Brochstein, CFA
The Canadian market has been a big focus of mine.
Having a federally legal medical program
that will in all likelihood permit sales to all adults beginning in 2018 is a
substantial difference from the United States, which is federally illegal. This
matters in terms of scaling the businesses as well as raising capital. Since
Justin Trudeau was elected in late 2015, the publicly-traded licensed producers
in Canada have raised over C$700M, and this excludes subsequent warrant
exercises as well as capital raised by private companies. Publicly-traded U.S.
companies struggle to raise capital. Even
NYSE-listed REIT Innovative Industrial Properties (IIPR), one of the few stocks
that doesn't trade on the OTC, wasn't successful in its IPO, dramatically
reducing the size of the offering. Another opportunity for the Canadian
companies is their ability to extend their intellectual property and capital
into other markets. Germany, for instance, allows imports and will be
implementing its federally legal medical cannabis system for local production
by 2019, a development that is favorable for a few Canadian companies that are
already in that market. Similarly, other parts of the world, including
Australia and South America, provide opportunity for the Canadian LPs. The
risks in Canada, in my view, are primarily potential delays in legalization as
well as the valuation of the stocks.
Q: Investorideas.com
Based on surveys and voting, the American public
wants to see marijuana legalized, yet headlines in the last week have investors
very nervous following White House Press Secretary Sean Spicer saying during a
White House briefing on Feb. 23 that he predicts “greater enforcement” of federal
marijuana laws. Where do you see the two contradictory realities meeting over
the short term and long term?
A: Alan Brochstein, CFA
I believe that there was a landmark revelation in
Spicer's comments that people may be overlooking, as the government is publicly
supporting medical cannabis. At the same time, it talks about
"recreational" cannabis as being potentially problematic. I believe
that these comments about greater enforcement refer to two distinct areas.
First, the federal government may play a more active role in determining the
ground-rules. The Cole Memo laid out 8 rules that, if followed, would prevent
federal interference in states with legal cannabis, and these may be made a bit
tougher perhaps. One of those rules, avoiding diversion, is likely the source
of concern for the Trump Administration, as there has been litigation from
non-legal states against Colorado for not taking effective steps to prevent
diversion to their states. This is a serious concern, as commercial
organizations are clearly violating federal law by transporting cannabis
products outside of Colorado. So, it's actually in the best interests of the
cannabis industry for the federal government to step up enforcement in this
area. So, more regulations and a more active federal role may be what lies
ahead. At the same time, both former President Obama and Attorney General Jeff
Sessions have suggested that the current laws need to be changed by Congress,
which has acted like an ostrich with its head in the sand over the past few
years. I don't expect full legalization at the federal level for quite some
time, but there are several steps Congress can take that would help clarify
what is permitted under state-legal cannabis and what isn't. Big areas of
concern have been banking and medical research.
Can federally regulated banks work with state-legal
businesses? Can state institutions who take federal money conduct medical
cannabis research? The laws aren't clear, and the uncertainty has stymied the
industry.
Q: Investorideas.com
Also on that note, there was a big sell-off on some
of the stocks, some dropping up to 15% on the Spicer comment. Do you see that
as a buying opportunity for the right stocks?
A: Alan Brochstein, CFA
Without doubt, there is substantial uncertainty and
potential risk to cannabis companies post-November. Cannabis remains federally
illegal, and the hands-off enforcement policy since 2013 (Cole Memo) may be
ending. With that said, the higher quality companies in the sector have pulled
back rather dramatically since early November. While the Trump Administration
is taking a potentially different approach to "recreational" cannabis
than medical cannabis, which it has endorsed, I don't expect major changes ahead.
The states that have implemented will not go back, in my view, though we could
see not only some changes to how the federal government deals with state-legal
cannabis from a regulatory perspective as well as some delays in implementing
in the new states to legalize, which includes California, Maine, Massachusetts
and Nevada. With that said, I believe that Congress may finally move over the
next few years to address some issues like banking and research.
Q: Investorideas.com
Separate from the growers and retailers, where do
you see opportunity in the service providers in the sector and where do you see
the biggest untapped potential?
A: Alan Brochstein, CFA
I am always looking for companies that provide
technology to help achieve two goals: Lowering the cost of production and
improving compliance. While I expect that there will always be a craft cannabis
angle that some companies will play, and of course building brands will pay off
for many, the production of flower will continue to commoditize over time. We
have seen tremendous price pressure in Colorado and Washington just a few years
after implementation of legal production for adult use. So, companies that can
help growers lower their costs merit attention. Cutting labor and energy costs
are big opportunities.
Similarly, many companies will struggle to remain
compliant with regulations, which is essential in a legal, regulated market.
Another area where I see opportunity is broadly in standardization and
consistency of outcomes. The big criticism of cannabis, which is a very complex
plant, is that the user experience varies too greatly. I think that those
companies that are able to create solutions to this problem will win big. I
also think those companies that can create health and wellness solutions as
opposed to just marketing big doses of THC, will be tapping into a new market.
Q: Investorideas.com
In closing, every big growth sector like this goes
through a cycle of cleansing and purging to let the best rise to the top. Where
do you see the stocks in the sector within this cycle and what should investors
be looking out for in the short term?
A: Alan Brochstein, CFA
I have been disappointed with the pace of the
development of the publicly-traded stocks until recently. While the vast
majority of the companies don't merit attention in my view, we are starting to
see companies that better reflect the industry. The Canadian story is playing
out very well, and the GW Pharma (NASDAQ: GWPH ) progress towards having the first FDA-approved cannabis-derived drug has
been substantial. I suggest investors
focus on revenue, and I have identified 10 companies that posted sales of $5M
or more in 2016, and I expect this group to grow in size this year. Investors
should focus on not only sales potential and financial metrics but also
management quality, balance sheet strength and access to capital.
About Alan Brochstein, CFA and 420 Investor: Founded by Alan Brochstein, 420 Investor is a subscription-based due
diligence platform for investors interested in publicly-traded cannabis stocks.
His affiliated New Cannabis Ventures is a content aggregation site focused on
investors and entrepreneurs in the cannabis industry. Alan Brochstein, founder,
has worked in the securities industry since 1986, primarily with the
responsibility for managing investments in institutional environments until he
founded AB Analytical Services in 2007 in order to provide independent research
and consulting to registered investment advisors.
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