Pot stocks are following a well-worn path these days.
A certain group of companies becomes fashionable to own. Investors pile in. The stocks move wildly higher.
Soon enough, the party ends.
Short sellers pile in, aiming to profit on overvalued share prices. The stocks drift lower, rotting away like a forgotten platter of cold cuts.
I’ve seen it happen many times before in my career as an investor and former financial journalist. From biotechs to bagel chains, and dot-coms to 3D-printer makers, the boom-and-bust cycle is all the same.
It’s not hard to spot the wreckage attracting all the attention and hand-wringing.
Specialty exchange-traded funds (ETFs) such as the Cambria Cannabis ETF are down 40% since last summer.
And once-popular momentum plays such as Canopy Growth have dropped 60% over the past year.
But there are always a few profitable gems thrown away with the trash. I’ve made similar calls before with General Electric, which is up 50% in the last 12 months.
That’s where the opportunity lies today amid the pot stock apocalypse.
I expect Innovative Industrial Properties Inc. (NYSE: IIPR) to more than double over the coming year.
Save for the stock’s less than $1 billion market cap, it has all the features of the stocks I recommend in my Total Wealth Insider newsletter on a regular basis.
It’s been tossed aside by investors, down 40% in the last seven months.
Yet the company is consistently profitable because it’s a real estate investment trust (REIT) that buys farms and warehouses and then leases them to cannabis growers.
That steady stream of revenue helps it generate more cash than the companies that grow, harvest and sell cannabis.
And it pays out a portion of that revenue as a 3.7% dividend to shareholders.
What’s not to like about a company that’s on track to report $1.68 a share in annual profits for 2019, despite the carnage elsewhere?
In comparison, Aurora Cannabis is expected to have lost $0.25 a share in 2019.
Hexo’s earnings fell to $0.38 a share last year.
And Canopy Growth is on track to report a whopping loss of $2.62 a share in 2019.
While other investors wait out the damage, Innovative Industrial Properties used the downturn to its advantage.
After being on a buying spree all year, deploying more than $380 million for investments and improvements, the REIT now owns 41 properties in 13 states, controlling 2.8 million square feet.
As Alan Gold, the company’s executive chairman, noted on the third-quarter conference call with analysts, all of it is “100% leased on a long-term basis to high-quality, licensed cannabis operators.”
If we divide the share price by those annual earnings per share, we get a price-to-earnings (P/E) ratio of 44. That’s what investors are willing to pay to own the stock, based on its last 12 months of earnings.
Sounds expensive for a REIT. But not when you consider that analysts expect the company’s profits to more than double to $4.04 a share in 2020.
We can get some idea of where the stock might be a year from now by multiplying those same two bits of data.
If investors are still willing to assign a P/E ratio of 44 to the stock a year from now, and the company hits its earnings projections of $4.04, that gets us a stock price of $177 — a gain of 128%.
Given the dour mood of pot investors, I can see why some might doubt this is a possibility. But that’s how fortunes are made.