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The 2022 annual meeting of the American Society of Clinical Psychopharmacology held in June included a panel discussion specifically devoted to psychedelic drugs and the U.S. Food and Drug Administration approach to clinical development and potential approval processes.COLE BURSTON/AFP/Getty Images

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Psychedelic stocks have suffered in recent months as markets moved into risk-off territory, but experts say the bust has created a buying opportunity for investors willing to stick it out for the long term.

Last year, companies studying psilocybin, ketamine, LSD and other so-called “hard drugs” for medical purposes began attracting substantial attention and capital through listings on Canadian exchanges. Psychedelics companies listed on the Canadian Securities Exchange (CSE) raised $375-million in the first six months of 2021, said CSE chief executive officer Richard Carleton in the November edition of a magazine published by the exchange.

A recent McMillan LLP report found at least 50 psychedelics companies listed their securities on the CSE, TSX Venture Exchange, or the NEO Exchange from 2020 to 2021. The first exchange-traded fund (ETF) covering the nascent sector – Horizons Psychedelic Stock Index ETF PSYK-NE – started trading on the NEO Exchange in January 2021 at roughly $9 a unit and quickly rose more than 14 per cent to almost $12 in its first two weeks of trading.

However, since the start of this year, rising interest rates and falling investor appetite for speculative sectors such as psychedelics – in which the vast majority of players remain years from profitability – have combined to crush valuations. Horizons Psychedelic ETF has declined by almost two-thirds from its early highs after accounting for a 1-to-4 unit consolidation in July.

“Were these companies the shiny new object with an extremely high profile relative to where they were at in clinical development? Possibly, and that always leads to multiple expansion” says Ritu Baral, managing director, health care, biotechnology at Cowen Inc. in New York.

“Once the attention moves on to something else, in this case, a terrible market, you will have multiple contractions. But that doesn’t change the fundamental value that’s there.”

Those who remain invested in the sector, Ms. Baral says, are fundamental investors who understand both the clinical value and commercial potential of these therapies.

“What we have seen is a crystallization of the value rather than any sort of dissolution of the value proposition of psychedelics,” she says.

Comparisons made to the cannabis sector

Leila Rafi, partner of capital markets and securities at McMillan in Toronto and lead author of the law firm’s psychedelics industry report, says part of the challenge with investing in the sector is that it’s often compared incorrectly with the rise of the legal cannabis industry.

“It’s actually pretty different from cannabis,” Ms. Rafi says. “The cost of entry is higher, the consumer delivery model is different because it will never be sold recreationally, and there is also a longer period of testing.”

“Investors who are interested in psychedelics have to want to be in it for the longer term,” she says. “It’s not something that’s going to get someone rich quickly.”

Connecting psychedelics to cannabis was one of the biggest mistakes investors made when buying into the space over the past two years, says Nick Kadysh, chair of the trade association Psychedelics Canada and founding chief executive officer and president of Toronto-based PharmAla Biotech Holdings Inc. MDMA-CN.

“The reality is this is not cannabis. ... Biotech takes time, the clinical trial process is hard,” he says. “It’s about creating new medicines that will help millions of people in the long run, but first the scientific evidence must be brought to bear.”

Progress has been slow but is occurring. For example, Cowen’s Ms. Baral says the 2022 annual meeting of the American Society of Clinical Psychopharmacology held in June included a panel discussion devoted specifically to psychedelic drugs and the U.S. Food and Drug Administration’s approach to clinical development and potential approval processes.

“That shows how seriously regulators are taking this issue,” Ms. Baral says.

In Canada, Ms. Rafi points to August 2020 as a watershed moment when the federal health ministry granted its first-ever exemptions under Section 56 of the Controlled Drugs and Substances Act for a handful of patients to access psychedelic drugs legally.

“Since then, the health minister has given exceptions to about 80 individuals,” Ms. Rafi says. “I think [he] is now more open to granting exemptions.”

For advisors looking to find an entry point into the sector, Mr. Kadysh says some companies are more fiscally sound than others.

For example, he notes that his firm, PharmAla Biotech, is already cash-flow positive as a major part of its business involves manufacturing MDMA for use in clinical trials and academic studies.

“I would also recommend looking for companies with regulatory expertise as this is a super highly regulated space,” he says. “Understanding the regulatory environment is the difference between success and failure in this business.”

Ms. Baral notes that as with any start-up-dominated sector, the companies operating in the psychedelics space are “of varying quality.”

But as multiples have contracted, certain companies “have not sat back and done nothing,” she says.

“They have continued to move forward and generate data and move the overall space forward. It’s just a matter of finding them.”

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