Cronos Group: Time To Take Profits

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About: Cronos Group, Inc. (CRON)
by: Taylor Dart
Summary

Cronos Group looks to be exhibiting signs of a short-term climax top (3-6 months).

The stock has run up over 140% the past 30 trading days, and is now nearly 130% above its 200-day moving average.

This area looks like a wise spot for traders to take partial profits on their positions.

When it comes to upside momentum, the cannabis sector has been separated by the haves and the have-nots over the past six months. While many have lay relatively dormant, trading mostly in wide ranges — like Tilray (TLRY) and Cannabix Technologies (OTCPK:BLOZF) — a few names have catapulted higher in powerful uptrends. Cronos Group (CRON) is one of those names, and this recent surge has certainly been impressive. The only problem is that moves of this magnitude can end up creating short-term climax tops in stocks. The current move higher in Cronos Group is beginning to show signs of this, and this looks like a prudent area to book partial profits for traders.

Source: TC2000.com

Cronos Group is one of the few marijuana stocks that has a positive earnings trend on the way, as well as Canopy Growth (OTC:CGC), Aphria (OTC:APHA), and Aurora Cannabis (OTC:ACB). This is a positive development for the stock, as up until this year Cronos had not put up any meaningful years of positive earnings per share. This year however, Cronos is expected to show $0.06 in annual earnings per share, a significant jump from the -$0.03 last year, and $0.02 in 2017. While this places the stock at a P/E ratio near 350 at current prices, I do not believe that P/E ratios are suitable for valuing hyper-growth stocks. Some of the best investments of the past half century started out at astronomical P/E ratios like Yahoo and America Online, and still went on to return 2000%+ returns. As we can see in the table of past earnings and forward estimates below for Cronos Group, analysts are expecting a new high in annual earnings per share for fiscal-year 2019.

(Source: YCharts.com, Author's Table)

The previous high in annual earnings per share was $0.02 in 2017, and 2019 expects to see triple that amount at $0.06 in annual EPS. This jump in earnings per share is also supported by sales growth which is always a positive sign. As can be seen from the below table I've put together, quarterly sales have increased every single quarter, as has the two-quarter average for sales. I like to use a two-quarter average for assessing a trend in sales as it smooths out any single quarter readings.

Data source: YCharts.com; author's own table.

The above table shows us that quarterly sales for Cronos Group have increased nearly 100% over the past eight quarters, from $0.4 M in Q4 2016 to $3.8 M in Q3 2018. The two-quarter average for sales is also up significantly, up from $0.45 M in Q1 2017 to $3.6 M in Q3 2018, and at new highs. These are certainly reasons to be bullish on the stock long-term if these trends can continue.

Finally, Altria's (MO) recent investment Cronos Group is certainly a plus as it further validates the company's business plan with a mega-cap company taking a massive stake of 45%.

So why with all these positives would one even consider selling any of their shares? To answer this, we need to move over to the technicals.

Source: TC2000.com

As we can see from a weekly chart of the stock above, there is no question that Cronos is in an intermediate uptrend, and this long-term trend will remain alive as long as the stock does not break below $11.00 per share. The problem is that the stock is now over-extended above this trend-line, and even the strongest stocks rarely go up in a straight line. Not only is Cronos Group over 150% above its 200-day moving average which is where the stock reversed from in September of last year, it's also up over 130% in less than 30 trading days. This does not mean the stock has to crash or that a pullback must occur, but the odds certainly favor that at this juncture. For this reason, I believe this is a wise spot for traders to take partial profits in the stock. This means selling between 1/4 to 1/3 of positions, and trading around the core of the position. If the stock ends up going higher, one will still have the majority of their position. If the stock ends up pulling back as the charts suggest, one can choose to look for an opportune spot to add back some exposure if they wish.

Source: TC2000.com

Finally, taking another look at the stock from a daily chart, we can see the stock has headed outside of its medium-term bollinger bands. The past three times the stock went outside of its bollinger bands to this degree, pullbacks were sharp over the next 10-20 trading days. These pullbacks occurred in late August 2018, and early December 2018. While the stock did eventually head higher, the stock suffered pullbacks of 30% or more in 10 trading days or less. History does not have to repeat itself and this time could be different, but I believe that any further strength in the stock short-term has a high odds of being sold into.

Source: TC2000.com

Based on the technical picture being very overheated in the short term, I see this as a good opportunity to take partial profits in Cronos Group for traders. Investors may choose to hold onto their shares and not sell out, but my style is to book profits when things start to get ridiculous, and Cronos Group has now gone parabolic short-term. This does not mean the stock has to top at $23, and ultimately the stock could easily go higher, but short-term a pullback is the most likely scenario.

While there is no disputing that Cronos Group may have a decent runway long-term based on its positive sales and earnings trends, short-term it's getting a little over-heated. I have no problem with the stock's valuation as P/E is an absolutely useless way of measuring growth stocks in my opinion, especially stocks with hyper-growth like Cronos Group if it meets 2019 EPS estimates. Having said that, the technicals are suggesting that a good chunk of the fundamentals are being baked in at current prices, and this rally may already be on borrowed time.

So what are the risks to this thesis?

I am not suggesting shorting Cronos Group. While it could head lower, shorting high-growth stocks with momentum behind them is a dangerous game. I do however believe that this is a wise time for traders to take some profits. The risk in this of course is missing out on additional upside, or not being able to buy back those shares. I see this as a very small and calculated risk as the suggestion is to take partial profits for those who believe in the company, not to sell out their full position.

Bulls have a lot to be happy about here with Cronos Group in the top 1% of strongest stocks on the US market, a year of potential positive annual EPS ahead, and accelerating sales. The trouble is that the stock may be getting ahead of itself and no one ever went broke taking a partial profit in a parabolic uptrend. If I held the stock currently, I would sell one-third of my position, or more, at current levels above $23.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.