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Cannabis as an Alternative Investment Strategy

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2018 was the first time that cannabis made a real impact on the global investment landscape. Starting from Canada where recreational cannabis was legalized, 2018 was also the year that saw the first U.S. IPO of a cannabis company – Tilray. As the industry was so young, the buy-side wasn’t yet actively investing in cannabis in 2018. Today things have changed.

Trading of cannabis stocks has gained in popularity since the initial excitement. In 2018 legal U.S. cannabis spending was over $11 billion. Going forward there are predictions that the market will be worth $100 billion by 2030. But even if it only grows to half of that prediction, it is still going to be considered one of the biggest growth sectors for investors today.

During my recent trip to the U.S. I was in New York when cannabis was legalized for recreational use in the state. As the financial centre of the world, this move by state legislators further highlighted the opportunities available to investors.

The Rise and Fall of Cannabis Investment

Much like alternative assets, investing in cannabis is something that regulators took a long time to accept. This led to a slight dip in popularity in 2019 which continued into a downward spiral by April. Some of the reasons for this were explained in a story by Motley Fool. In the story it was revealed that financing had been a challenge, high U.S. tax rates, and lack of reforms were other considerations.

Since 2019 things have slowly started to improve. But then something happened this October. Something that would have been hard to predict and has been hailed as an unprecedented move forward for the whole cannabis industry. President Biden stated that he would begin the process of pardoning thousands of people who had been convicted for cannabis-related activities. Even the police had to think twice the next time they saw someone lighting up in the street.

Since the announcement in early October the share price of Tilray has gone up by more than 25%. Curaleaf has performed similarly, as has Canopy Growth Corp and some of the other listed cannabis companies.

All this has taken place in an equities market where investors have had few opportunities of late. But there are thousands of cannabis companies not listed on exchanges anywhere. What about them?

Growth in the Cannabis Industry has piqued the interest of the buy-side

In May this year the Ontario Teachers’ Pension Plan’s (OTPP) Chief Executive Jo Taylor stated that OTPP is looking more closely at both the returns its private equity portfolio generates as well as how it wants to increase its influence on companies it invests in. This follows a Bloomberg story from last year where the appetite for pension funds to increase their exposure to alternative investments was highlighted.

We reached out to Meredith Yarbrough and Cato Felan III, Co-Founders at La Hoja Capital Management LLC to find out more. Meredith explained how the firm was launching a series of private credit fund of funds within the cannabis sector. An alternative investment sector receiving a lot more attention of late. La Hoja Capital Management LLC is at the forefront of the buy-sides interest in the cannabis industry.

Meredith lived in China during her 20s. When she returned to the U.S., she immediately saw the opportunity within the cannabis industry. “It’s a growth market, it has the same kind of energy that being in Shanghai had,” Meredith shared. Meredith is an entrepreneur, but Cato and the other members of the leadership team at La Hoja Capital Management LLC are mainly from the asset management space. Cato himself spent many years at Blackrock.

“I have worked with investors, many of them from Latin America,” explained Cato, “I have a good understanding of what investors are looking for. And I felt that with Meredith we could build a product that we could take to our investor community.”

Both Meredith and Cato are originally from Texas, but the fund is based out of the Sunshine State. Cato explained how Miami was a financial capital in its own right many years before it was dubbed the crypto capital.

In early 2018, after substantial research, Meredith, and Cato setup La Hoja Capital Management LLC. At the time, Cato shared, yields were very low in capital markets. And, whilst yields have improved today, there is a lot of risk involved in ensuring a high yield.

Alternative Investing as a Fixed Income product

To mitigate risk what the team at La Hoja Capital Management LLC has done is to reach out to over a hundred funds that currently offer investors the chance to add cannabis to their portfolio. These funds are scattered across the 38 states where cannabis has been legalized so far. Many of them are waiting for acquisitions, some of them are looking for investors, but as standalone fund managers they haven’t been able to scale much.

“There are currently 11 ETFs representing the cannabis industry,” Cato explained. “They offer very little liquidity though.

“Today there are 40 publicly traded cannabis stocks in the U.S., 30 of which are OTC but have very little volume. But there are over 60,000 private cannabis companies in the U.S.,” Cato highlighted. The problem is which one of these many thousands of companies is going to be the Google or Facebook of the cannabis industry in the future?  Or the AOL of the past, as Cato pointed out.

The key to this is how the team at La Hoja Capital Management LLC are trying to add traditional asset management with tried and tested techniques, into the private market world. Working with a wide group of fund managers ensures diversification, meaning that Cato doesn’t have to worry about whether they have the Google of cannabis in their portfolio already. He might have the Amazon or Apple of cannabis in there instead. Returns are better and the risk is lower when there is a wide selection of companies in the portfolio.

“This is a great fixed income product,” Cato elaborated, “it just happens to be in cannabis.”

The Strategy providing good yield returns and lowering risk in your portfolio

The expertise of the team at La Hoja Capital Management LLC is second to none. The approach to investment also addresses the majority of concerns that investors could raise. However, there are a few more aspects that Meredith and Cato shared during our conversation.

One of the topics we also discussed was the problem of defaults. Cato pointed out how he expects far less volatility in the firm’s investment strategy than 10-year treasury bonds can hope to offer. He also shared how many of the fund managers the firm works with are looking for private credit for their portfolio companies.

“Loans are real estate backed and less than 50% collateralized,” Cato explained. “Our product is a higher yield product, which would be non-correlated to everything else an investor has.”

Meredith added how because the cannabis industry isn’t protected like other industries, covenants in place for loans are particularly cautious and leave no room for risk. She also explained how cannabis was currently a very U.S. based product. Which means there is little to no correlation with other global markets. “Every time a state legalizes cannabis, we see a rush to build up the infrastructure in that state just to meet the existing demand. Any correlation is with states regulation around cannabis,” she explained.

Cato added how “you can’t be at Goldman and see a dispensary with lines down the block and not take note.” He is excited about the change in legislation in New York. About the innovation it can mean for the industry. Municipal bonds, futures markets, and more.

“What we see in the legalized markets now is that there’s generally a market of 50% of over-21-year-olds. That’s the trend. Which equates to something like 90 million people in the U.S. alone,” Cato explained.

More than just a fund of funds

Private credit strategies require investors to prioritize minimizing risk or maximizing return. Meredith highlighted how the team at La Hoja Capital Management LLC are able to deploy different types of funds in the future. How the firm is offering more than just a fund of fund but will be able to leverage the experience of the many fund managers in the cannabis industry today. Many of the fund managers that work with the firm are adept at private credit strategies too.

Readers may recall when Snoop Dogg setup a cannabis investment bank attracting the attention of many investment bankers. Former NBA star Chris Webber launched a $100 million private equity cannabis fund in 2021. But what La Hoja Capital Management LLC offers is something different. Something that Cato calls “investing at the highest end of the cannabis market.”

Cato confidently shared how the fund the firm recently launched is expected to yield over 14% in annual income with potential returns higher due to market conditions and positive industry trends.

The Cannabis industry will grow, become greener and more efficient

Finally, we spoke about the growing significance of ESG ratings. Cato was open about how there were improvements to be made within the cannabis industry today. However, he was hopeful that with increased demand and regulation the future can only become more sustainable.

Today the cannabis industry, as Meredith highlighted, is very much a U.S. phenomenon. It’s sometimes easy to forget that Canada has already ploughed a furrow into cannabis:

Speaking to Meredith and Cato was a rare foray into the world of cannabis for our editorial team. However, the opportunity within the sector is hard to ignore. Many investors may have already experienced some of the hype in 2018, but a lot has changed then. Not to mention what President Biden did last month.

Alternative investment strategies are a growing priority for the buy-side. Having a diversified, low risk and healthy return fixed income product like what La Hoja Capital Management LLC is offering could be something to consider.

Author: Andy Samu

Disclaimer:

The Editorial Team at #DisruptionBanking have taken all precautions to ensure that no persons or organizations have been adversely affected or offered any sort of financial advice in this Article. This Article is most definitely not Financial Advice.

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