Cronos May Look Appealing, But Comes with a Lot More Risk
Marijuana stocks have attracted a lot of attention on Wall St. recently, and some stocks like Cronos are up 80% in 2019. These stocks require more care to manage though.
Many investors are eager to invest in growth industries, although these days, with everything saturated so much, good opportunities aren’t always that easy to find. When you do find one, the risk involved with these investments is notably higher, and while the potential return is as well, this requires closer management than a blue-chip stock would.
It is not that blue-chip stocks don’t require a lot of management as well, and when we look at their performance over time, over the very long term even, there are times where they do perform quite well and other times where we may wonder why anyone is still in them.
From the perspective of long-term conservative investors who are not looking to do much if anything in managing their stock positions, it is certainly a good thing that most stockholders choose to weather just about any storm. If not, we could see a massive increase in volatility that could even make bitcoin look pretty tame.
While there is no real floor with something like bitcoin, which has no intrinsic value, companies do, especially companies that are making a profit and have been doing so consistently. However, if the majority of shareholders simply exited during the bad times, we could be pushed down a long way indeed.
We might think that value investors would step in and stop the bleeding before this got too far out of hand, perhaps when the stock lost half its value, but if things are tanking quickly, it would pay for them to wait and get in at much lower prices. The floor may therefore end up being well below 50% before the dust settles.
With Less Confidence Present, the Ride Down Can Be Wild as Well
What we tend to do here is to superimpose our strategies upon the markets, and this is the real reason why we don’t see these dramatic falls in established stock prices. Some people exit when things turn bearish for a while, but the great majority of shareholders hold their ground and have confidence that our strategy of holding through these events will yield a positive return over time.
Emerging stocks do not have this base of confidence though, and a lot less people holding a stock like Cronos are investing in with the sole goal of cashing it in and making a profit many years from now. This is a much more speculative play, as this type of stock attracts a higher percentage of investors who are just there to ride the wave so to speak and are more ready to bail should the situation warrant.
This makes these trades considerably more volatile, and Cronos is a good example of this. This volatility tends to go both ways, where we may see some big runups as well as some pretty steep declines depending on the mood of investors.
This is because what we could call the core base of a stock playing a lesser role in the movement of the stock, leaving the speculative side free reign to push the stock a lot more in either direction. This is what we call risk and the risk with these plays is certainly heightened quite a bit.
Cronos was nothing special until last August, when things really started to take off. To give you an idea of the velocity that these stocks can have, Cronos went from trading at $5.65 on August 14 to $12.74 on August 29, a 124% increase in less than 2 weeks.
There are two ways that a stock can go up in price, which are from its valuation changing by some news-driven event, or by accumulation. If this was a one-time event that happened instantly, by way of some after-market announcement that caused after-market traders to instantly jolt it up, a move like this may not be that notable, but this rise was caused by people just bidding the price up over this period.
Cronos May Have More Upside, But Requires that It Be Watched More Closely
Cronos ended up bouncing around quite a bit over the rest of 2018, and due to its volatile nature, these moves were pretty significant percentage wise. It reached an all-time high of $13.75 in September, and by the time October was coming to an end, it had dropped all the way down to $6.80, giving back half its value.
This tells us that the impact of the shares traded is a much bigger one than we see with more established stocks. With a higher percentage of participants being more transitory, being nimbler in other words, if we are not nimble enough, this can expose us to a lot more risk than we would see by investing in much more tame stocks.
Cronos and stocks like it are therefore more traders’ stocks than investors’ stocks, even though it certainly can be invested in longer-term if one wishes. Cronos did manage to get one rather large investor recently, the Marlboro Man, when big tobacco company Altria handed over $1.8 billion back in December in exchange for a 45% stake. Altria didn’t do this for the purposes of trading of course, they intend to make long-term gains from this venture.
Not surprisingly, this served to embolden both investors and traders, who buckled in for another ride up. Once again, this was not due to a spike up in valuation, as Chronos stock was bid up during the first few months of 2019, and bid up quite a bit, opening the year at $10.39 per share and moving all the way to $23.25 a little over a month later.
As is so often the case with emerging stocks, sales are up but they are still losing money, and the valuations that are made here are not based so much on near-term expectations as longer-term ones, where we see a company continuing to get its act together and making a good profit down the road.
It’s not that investors don’t pay attention to quarterly and annual business results though, and Chronos’ latest one didn’t impress very much at all. When you miss your earnings projections by 50%, that’s not going to please either analysts or investors very much, and Chronos has since dropped to $18.73.
This still has the stock up 80% so far this year though, which is far from something that we want to sneeze at. With a stock that can move this much though, we do need to be wary of the potential for more downside from this recent pullback from the $23.70 it traded at on March 3 to being about $5 less a share at the present time.
What Cronos is struggling with so much now isn’t a lack of demand, it’s their lack of ability to satisfy demand well enough. This may seem to be the better of the two problems, but still, if you can’t get enough product to market, this will affect profitability the same way as having inventory you can’t move.
Cowen and Co.’s Vivien Azer remarks that Cronos’ results have been “marred by supply constraints that fell short of demand.” This may seem like an easy problem to fix, but finding enough product of a high enough quality to meet demand is an issue that has plagued all marajuana companies these days.
Over time, we would expect that market forces would step in and correct this, and a company not being able to produce enough product to meet its demand is not anything we would think should be too problematic. Azer has dropped her price target by $3 a share recently, but it still stands at $26, which would take us up over $7 a share from here and into all-time high territory.
With this stock though, it’s not so much about whether it can hit $26, but how long it can maintain this price. The way Cronos trades, we could be here one day and a month later be right back where we are now or worse, depending on how the winds blow.
Cronos is a tradeable stock for sure and a very nice one at that, but may not be quite as suitable for investors who are looking to hold on to it for a while, due to its much more wilder swings than we normally see with stocks. Investors need to be prepared to have both their skills and their resolve well tested here.
Editor, MarketReview.com
Andrew is passionate about anything related to finance, and provides readers with his keen insights into how the numbers add up and what they mean.
Contact Andrew: andrew@marketreview.com
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