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There is a paradox when it comes to retail investors: Many startup-related deals are out of their reach (in part for their own sake). Yet, laypeople have also become the target of novel schemes hoping to attract their bets and savings. Are nonprofessional investors assuming more risk than they should? Let’s explore. — Anna
Opium for the masses
I am by no means a stock exchange expert. But while writing on cannabis and psychedelics startups for TechCrunch lately, I discovered that some young companies in these verticals are listing on trading markets that I had never heard of. I mean, I had heard of “pink sheets” — in “The Wolf of Wall Street.” I just didn’t think that over-the-counter securities were something startups would ever use. It looks like needing money for drugs makes you creative!
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I have nothing against innovation, even when it comes to fundraising. But the fact that listed cannabis companies — many of which went public with nascent revenues more reminiscent of startup metrics than mature-company results — have seen their market caps crash is likely no coincidence. And when we consider the period of hype surrounding their public debuts, it’s difficult to not wonder how many retail traders got burned.
We’re not merely discussing the most obscure exchanges, either. Cannabis companies listed on the Nasdaq, such as Akanda and Tilray, have also seen their value plummet.
My perception that we’re seeing a new crop of companies, those focused on psychedelics, follow in the footsteps of cannabis companies is not mere speculation. “There is an unwarranted rush from founders to list their cannabis and psychedelics companies on stock exchanges,” VC Bek Muslimov told me.
Muslimov is a co-founding partner at specialized investment firm Leafy Tunnel, and he sees a danger in rushed listings. “In this pursuit, founders and management teams bypass private financing markets which consist of professional and diligent investors such as VCs or growth capital funds,” he told me in an email.
The problem here isn’t that private investors lose out on juicy opportunities. The problem is that they would have declined to invest in the first place. Not because they don’t invest in cannabis — few do. But Leafy Tunnel is one of them, meaning that its viewpoint here matters.
What Muslimov objects to is seeing cannabis and psychedelics companies going public when they would not have passed venture capitalists’ criteria to get funded. “Unfortunately, this can lead to a situation where companies with poor business fundamentals and insufficient level of maturity are listed, allowing them to tap into funds of retail investors.”
The risk of retail investors losing their money is not theoretical: Some of these cannabis companies have nearly become penny stocks, with no recovery in sight. Why? Because what they promised was often smoke and mirrors and because they are now stuck chasing foolish metrics.
Matt Lamers, a journalist from cannabis-focused media outlet MJBiz, thinks that many issues with Canadian cannabis companies stem from the fact that retail investors are their main current pool of stock investors. “They don’t really understand the [cannabis] industry as much as they think they do, and they don’t understand the companies as well as they think they do,” he said in a recent episode of the Cannabis Conversation podcast.
Taking a step back, hearing about the lack of knowledge and due diligence of retail investors reinforces my personal conviction that nonprofessionals should instead invest in index funds or other broad baskets of stocks rather than try their luck at stock picking.
In the case of cannabis, however, I have to concede that ETFs wouldn’t have prevented losses — because it’s public companies as a group that are tanking. From what I’m hearing, there’s a real disconnect between the quality of listed companies and private ones. But retail investors can’t invest in the latter.
Who’s helping whom
Crowdfunding, when applied to startups, has often been touted as a way to democratize investment. When a unicorn goes public, it might be too late for a retail investor to earn much upside. By investing much earlier, individuals would perhaps have a better shot at making the same kind of returns as VCs. Or writing off their investments, which might be OK for a fund, but less so for savers.
From the perspective of the company raising funds, crowdfunding is also a way to get capital that wouldn’t otherwise be available. But this means skipping questions as to why that money wasn’t readily offered by seasoned investors, and this puts retail investors at risk of losing their money for lack of better knowledge.
It would be remiss not to emphasize that the common thread between cannabis and psychedelics is that they are overlooked and misunderstood. It is harder to raise funding in these spaces than it should be, and this pushes founders to look for new sources of liquidity. This makes sense, but I hope that this won’t end up in a steep bill for individual investors.
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