Weed And Wait: The Long Game Of Marijuana Investments

Marijuana stocks are a tempting investment, but they are a risky business. The industry is still in its infancy, and the product is still a Schedule 1 drug at the federal level in the US. However, with more states moving to legalise marijuana, the industry is expected to grow, and investors are keen to profit.

The Biden administration's moves to decriminalise marijuana have been interpreted as a step towards full legalisation, which would be a huge catalyst for marijuana companies. However, investors should be cautious as the industry is highly volatile, and marijuana stocks should be considered speculative investments.

There are other risks to consider, such as potential scams, foreign stocks with limited financial data, and the reluctance of banks and financial advisors to get involved while marijuana remains illegal at the federal level.

Marijuana stocks include retail operations, biotech and research companies, and specialists in distribution and consumption. Some of the top-performing stocks include Green Thumb Industries, Innovative Industrial Properties, Canopy Growth Corporation, and Scotts Miracle-Gro Company.

While the risks are high, the potential rewards are significant, and aggressive investors may find a lot to like about marijuana stocks.

Marijuana stocks: pros and cons

The legal cannabis landscape is changing dramatically. More states across the U.S. are moving to legalize both recreational and medicinal marijuana, and the industry is expected to grow globally to $74 billion by 2027. This has led to a lot of interest in marijuana stocks.

Pros

• The industry is still in its early stages, so there is a lot of potential for growth, especially as more U.S. states legalize cannabis.
• Multi-state operators (MSOs) can help a brand expand nationally while carefully remaining within federal laws limiting interstate commerce.
• Well-planned and managed MSOs are flourishing and providing attractive returns, with some reporting year-over-year growth with a line of sight to $1 billion in annual sales.
• Some marijuana stocks are traded publicly, and cannabis exchange-traded funds (ETFs) are also an option for investors who want to diversify.
• Private investment in a single-state cannabis company can provide much more explosive returns, although the bar for entry is much higher.

Cons

• Marijuana stocks are considered very risky because the industry is still nascent and the product is federally illegal.
• Many marijuana stocks are penny stocks, which are riskier because they are very small, experience wide price swings, and may trade less frequently.
• It can be hard to find reliable information about marijuana stocks, and some investors and banks are reluctant to get involved with them.
• There are challenges to the MSO model, including complying with varying state regulations and achieving product consistency.
• The financial structure of MSOs can be complicated, and many investors are hesitant to invest in such a complex entity.

In conclusion, investing in marijuana stocks is a high-risk but potentially high-reward proposition. It is important to do thorough research and understand the risks before investing in this burgeoning industry.

Marijuana investments and federal law

Marijuana is illegal at the federal level in the US as it is a Schedule 1 controlled substance. However, its usage for medicinal purposes is legal in 29 states, and it has been legalised for recreational consumption in eight states and Washington D.C.

The legal status of marijuana at the state level has existed in a legal grey area for many years. The federal government's response to the cannabis industry has varied from administration to administration. For example, under President Obama, federal law enforcement agencies were instructed not to interfere with the industry as long as state laws were being followed. However, the Trump administration reversed this policy.

Due to the legal ambiguity surrounding the cannabis industry, companies operating in this space are at risk of being fined or shut down for breaking federal law. As a result, some publicly traded cannabis companies choose to list their shares on international exchanges, such as in Canada, where the risk of federal crackdowns is lower.

Despite the legal risks, the cannabis industry is expected to experience significant growth. According to industry analysts, the industry is projected to be worth $57 billion by 2027, and some estimates even predict it could reach $74 billion. This growth is attributed to the increasing number of companies involved in the production, distribution, and study of legal cannabis.

Investors have several options when it comes to legally investing in the cannabis industry. They can choose to invest in legal cannabis companies registered in countries where marijuana is legal, such as Canada. Alternatively, they can invest in companies that do not directly interact with cannabis plants, such as those providing supporting products and services. These companies may be involved in creating, marketing, or distributing products that utilise cannabinoids, such as tobacco, fertilisers, plant foods, or personal health products.

While investing in the cannabis industry may offer potential opportunities, it is essential to exercise caution due to the legal complexities and the crowded market. The field is highly competitive, and it is challenging to predict which companies will succeed in the long term.

Marijuana companies' market valuation

The legal cannabis landscape is rapidly changing, with more US states moving to legalise marijuana for medical and recreational use. This shift has led to a significant increase in investment in the cannabis industry, with venture capitalists and other investors attracted by the potential for large profits from a legal supply chain with global demand.

However, the cannabis industry is relatively new and untested, and it is unclear whether market valuations will settle down. As a result, investors should exercise caution when investing in marijuana stocks. The industry is quite crowded, with hundreds of companies vying for dominance in a global industry that is still in its infancy. In all likelihood, only a few of these companies will grow into major market players, while many others will maintain small operations or shutter under market pressure. Marijuana stocks are also incredibly volatile, making every investment a risky bet.

Despite these risks, there are still reasons for investors to be optimistic about the marijuana industry. North America, which dominated the global cannabis market with an 81.79% share in 2022, is poised to become a global leader in the emerging industry. The global cannabis market size was valued at USD 43.72 billion in 2022 and is projected to grow to USD 444.34 billion by 2030, exhibiting a CAGR of 34.03% during the forecast period. This growth is driven by the increasing recognition of the legitimate medicinal benefits and therapeutic applications of marijuana, as well as the economic benefits of a regulated marijuana market, including substantial tax revenues, business growth, and job opportunities.

In terms of market valuation, the median EV/Revenue multiple for public cannabis companies was 1.4x in Q4 2022, nearly 75% below pre-pandemic levels. This sharp decline can be attributed to falling sales and a decrease in discretionary spending caused by the cost-of-living crisis. However, it's worth noting that the European market, which is still in its infancy, looks promising and has attracted strong interest from investors.

When determining the fair market value (FMV) of a cannabis business, it's important to consider both external and internal factors that affect market value. External factors include market timing, the perception of marijuana, hype and demand, and the efficiency of the supply chain. Internal factors include risk assessment, financial management, transparent reporting, cost management, employee turnover, corporate governance, decision-making processes, accountability, and company culture. By focusing on these factors and demonstrating a clear path to success, businesses can increase their chances of earning a fair market value that aligns with market realities.

Risks of investing in marijuana stocks

Investing in marijuana stocks is risky for several reasons. Here are some of the key risks to consider:

Relatively New and Uncertain Industry:

Marijuana legalization for recreational use is still very new, having begun in 2012. As a result, many marijuana companies are small and fall into the category of penny stocks, which are highly speculative and risky. The industry's future is uncertain, and young companies are more vulnerable to market changes and may struggle to survive.

Speculative and Volatile Investments:

Marijuana stocks are considered speculative investments due to the industry's infancy and federal illegality. Stock prices can be extremely volatile, swinging wildly up and down in short periods. This volatility is less of a concern for long-term investors but can be risky for short-term traders.

Scams and Fraud:

The popularity of marijuana investments has attracted scam artists and fraudulent schemes. The U.S. Securities and Exchange Commission (SEC) has issued warnings about potential investment fraud, including unlicensed sellers, promises of guaranteed returns, and market manipulation. Investors should be cautious and verify the legitimacy of any investment opportunity.

Limited Access to Financial Data:

Many cannabis stocks trading in the U.S. are Canadian companies. Investing in foreign stocks can carry additional risks, such as limited access to financial data and company reports, making it challenging to conduct thorough research and analysis.

Banking and Financial Challenges:

As long as marijuana remains federally illegal, marijuana companies face challenges in opening bank accounts and securing funding. This situation makes them rely primarily on cash, which poses accounting and liability risks. It also makes it more difficult for them to access traditional financing options.

Legislative and Taxation Risks:

The growth of the marijuana industry is closely tied to legislation and taxation policies. Future taxation remains a big question mark. While taxes can provide economic benefits to states, high taxes may decrease demand by increasing prices for consumers. Legislative changes can significantly impact the industry's outlook and companies' operations.

Valuation and Demand Risks:

With many young companies in the industry, determining accurate valuations can be challenging. There is a risk of overvaluation, and if the market corrects, prices may decline. As more companies enter the market, there is also a risk of supply outpacing demand, especially with the potential for enthusiasts to produce their own cannabis products.

Limited Advisory and Investment Options:

Due to federal illegality, many investment professionals, advisors, and portfolio managers may be reluctant to recommend or offer marijuana stocks to their clients. This limitation can make it more challenging for investors to access these investments through traditional advisory channels.

In summary, investing in marijuana stocks carries significant risks due to the industry's infancy, federal illegality, and potential for scams. Investors should carefully consider these risks, conduct thorough research, and only invest what they can afford to lose. Diversification is essential, and marijuana stocks should be a small part of a well-balanced portfolio.

Marijuana stocks vs. ETFs

Marijuana Stocks vs ETFs

The cannabis industry has faced several challenges in recent years, but investors remain optimistic about its future prospects. As the industry matures, cannabis-focused investment vehicles, such as stocks and ETFs, have become increasingly popular.

Marijuana Stocks

Investing in individual marijuana stocks can offer higher returns compared to ETFs. By carefully selecting specific companies, investors can potentially achieve greater profits. However, this approach also carries more risk due to the volatility associated with individual stocks in the cannabis industry.

One advantage of investing in marijuana stocks is the ability to focus on specific companies that align with an investor's interests and needs. This allows for a more tailored investment strategy. Additionally, investing in individual stocks can provide more direct exposure to the cannabis industry, particularly in the United States, where the drug remains federally illegal.

Marijuana ETFs

Cannabis Exchange-Traded Funds (ETFs) offer a more diversified approach to investing in the cannabis industry. ETFs typically hold a basket of stocks across different segments of the industry, providing investors with broad exposure. This diversification can help reduce the overall risk compared to investing in individual stocks.

One of the main advantages of ETFs is that they offer investors an opportunity to gain exposure to the cannabis sector without the need to pick individual stocks carefully. ETFs are also a good option for those who want to minimise the impact of volatility, as they generally experience less extreme ups and downs compared to individual stocks.

Additionally, ETFs can provide protection against legal uncertainties associated with the cannabis industry, especially in the United States. By investing in an ETF that holds companies from both Canada and the US, investors can reduce their exposure to the risks associated with the US market, where federal legality remains an issue.

When considering the downsides of cannabis ETFs, it's important to acknowledge the current state of the cannabis market, which can be described as inconsistent. The legal status of cannabis varies across different regions, and the US market remains a great unknown due to federal illegality. This inconsistency can make investors hesitant to enter the market.

Additionally, the performance of cannabis ETFs has been mixed. Some analysts argue that investing in individual large producers may result in higher returns compared to ETFs. ETFs may also include companies that have less direct involvement in the cannabis industry, which could potentially cause them to lag in performance.

Here's a comparison of some of the biggest cannabis ETFs in the market:

• AdvisorShares Pure US Cannabis ETF (ARCA:MSOS): This ETF offers exposure solely to US cannabis companies and related markets. It has total assets under management of US$594 million and an expense ratio of 0.8%.
• ETFMG Alternative Harvest ETF (ARCA:MJ): This ETF is widely diversified, including cannabis-related stocks, tobacco, real estate, and pharmaceutical stocks. It has total assets under management of US$261.96 million and an expense ratio of 0.75%.
• ETFMG US Alternative Harvest ETF (ARCA:MJUS): This ETF focuses exclusively on cannabis companies operating in the US. It has total assets under management of US$127.27 million and an expense ratio of 0.75%.
• AdvisorShares Pure Cannabis ETF (ARCA:YOLO): This ETF allows investors to gain exposure to both domestic and foreign cannabis equities. It has total assets under management of US$45.18 million and a net expense ratio of 0.88%.
• Global X Cannabis ETF (NASDAQ:POTX): This ETF invests in various sectors related to the cannabis industry, including cultivation, hemp, and pharmaceutical research. It has total assets under management of US$36.16 million and an expense ratio of 0.51%.

In conclusion, both marijuana stocks and ETFs have their advantages and disadvantages. Stocks offer the potential for higher returns but carry more risk, while ETFs provide diversification and reduced volatility. Investors need to carefully consider their investment goals, risk tolerance, and the level of exposure they desire before deciding between stocks and ETFs in the marijuana industry.

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