Where are we in the cannabis stock market cycle?
I think this is a good time to review where we are in the cannabis stock cycle. One point I would like to make at this time is the cannabis stock market cycle is a “cycle within a cycle.” It is a little bit like the gold stocks when the price of gold is rising or falling. It is a cycle that takes place almost without regard to what is happening in the rest of the world. Interest rates, employment, Gross Domestic Product (GDP) and other key economic variables are far less influential to the cannabis stock market cycle.
In review, here are the phases in the cycle as I have described them in past reports.
The entire market cycle is divided into three parts. The first is the bull market defined as a time when stock prices are generally rising. The bull market is further separated into two sections: the Dynamic Phase and the Trading Phase. The final stage is the bear market, which is an extended period of price declines. Here are some points to remember:
The bull market lasts three to four times longer than the bear market. That is why successful portfolio managers tend to be optimists. Since the market is rising most of the time, being positive means you will be right most of the time.
Although bear markets don't last as long, the rate of price decline is more rapid, and for investors, the experience is more frightening. Studies show that investors would rather not lose money than make money from investment.
Third, the bear market typically does not surrender all the gains made in the preceding bull market. That is why long-term charts of the Dow Jones Industrial Average and other market indexes rise over time. The long-term return on common stocks in the U.S. and Canada has been around 9%+ per annum assuming reinvested dividends.
Also, it is worth noting that although I am using one standard model for a market cycle, each one is unique. The length and the rate of change will be different from cycle to cycle.
Where did I put us in the cycle in my last review around seven months ago?
I concluded that in February 2018, we were transitioning from the Dynamic Phase to the Trading Phase of the cannabis stock market cycle. See the red oval to the left on the chart market February 2018. This meant we would still see a general uptrend in cannabis stock prices but the rate of gain would slow and volatility would increase significantly.
In November 2018, it was my view that we were transitioning from the Trading Phase to the Bear Market Phase of the cycle. See the red oval to the right on the chart marked November 2018. I indicated at the time that we were probably still in the Trading Phase and we needed an event to gain some upward volatility in prices. As I said here during the final months of 2018, tax loss selling would probably push cannabis stock prices lower but we could expect a bounce after Christmas. This happened right on cue but the rally proved to be weaker and shorter than I expected. As a result, since April 2019, I have been looking for cannabis stocks to continue to slide in price and that general expectation continues.
So where are we today?
My conclusion is we are now in the very late stages of the Trading Phase or the first half of the Bear Market, generally in the area within the red oval shown in the chart to the left. Cannabis stocks have been in a downtrend since February 2019 and the Let’s Toke Business Marijuana Composite Index is down around 17.5% in that time. In the overall markets measured by the Dow Jones and Standard & Poor’s, a bear market is normally defined as a decline of 20% or more. However, as we know the cannabis stock group is more volatile than the traditional stock markets. So a bear market in cannabis stocks should fall more than in conventional stocks.
One of the difficulties working with the cannabis stocks is the lack of data. The group has only been trading actively since 2014 or a little over five years. The Dow Jones has been published since May 26, 1896 or almost 125 years. In the chart to the right, I show the LTB Marijuana Composite Index and the four “bear” markets since that time including the latest downturn. The average decline has been -38.1% ranging from a low of -23.3% to a high of -62.3%.
Conclusion: I have been working with stock market data going back to my undergraduate days when we stored and entered data with punch cards. The fact is that you have to get used to working with approximations and uncertainty. The bad news is I am led to the conclusion that we are in a cannabis stock bear market. The good news is the way the recent trends have changed, it seems we are well into a downturn and probably closer to the end of the decline than the beginning.
Does this make sense? It might. What has been driving me out of Canada is the worsening political situation I see here with the incumbent pro-cannabis Liberal party losing power and the opposition anti-cannabis Conservatives gaining power.
In Canada, the election season is just getting underway ahead of the October 21, 2019 federal election. I suggest the cannabis stocks have been discounting a change in government and that situation will become progressively clearer in the next four months. It isn’t certain Trudeau will lose but investors have been and will continue to adjust their portfolios that way.
In the U.S. we can all see the incumbent anti-cannabis Republicans losing power and the opposition, pro-cannabis Democrats gaining power. The election is scheduled for November 3, 2020 and their election season has already begun. Right now the picture is still a little murky as almost two dozen Democrats vie for their party’s nomination as the candidate to run against President Trump. For the next year, the Democrats will be their own worst enemies until they meet from July 13 – 16, 2020 to formally choose their candidates for President and Vice President. The Republicans will try to find a way to rally behind President Trump. Six months ago, the consensus view was Prime Minister Trudeau was a shoo-in and President Trump was a shoo-out but that has changed. Certainly in Canada Trudeau looks to be a one-term Prime Minister and in the U.S., voters underestimate Trump at their own risk as they discovered in 2016. While the Democrats are well established as pro-cannabis, the Republicans are shifting and there is a chance that President Trump could make a surprise move and joint the pro-cannabis movement.
If you look at other geo-political regions of the world, the pro-cannabis movement is gaining strength on almost all fronts. The pro-cannabis movement certainly has strong positive momentum in Latin and South America and Europe and things are changing for the better in Africa and Asia.
So I can see the LTB Marijuana Composite Index bottoming out ahead of the October 2019 election as the cannabis picture is clarified in the U.S. leading up to their election on November 3, 2020. The momentum from the U.S. which is roughly ten times larger than Canada will carry both markets higher. But as we have been saying, the non-Canadian based cannabis companies will lead the way. So we are well positioned for what lies ahead and the companies I am working on will have the potential to add to our portfolio returns.