Investing in Cannabis: Is it Right for Me?
Beginning in California in 2004, the decriminalization of cannabis has been steadily progressing across the United States. As of December 2021, 14 states have legalized cannabis for recreational use and 36 have legalized it for medicinal sales. More Americans today live in states where cannabis is legal than not. This has resulted in a series of established and emerging markets across different states.
Cannabis sales are very strong and are expected to grow considerably heading into 2022 and beyond. According to Forbes, recreational and medicinal cannabis sales hit a record of $17.5 billion in 2020, a year-over-year increase of 46% compared to 2019. In mature markets, including Colorado, Oregon, and California, cannabis sales are routinely above $1 billion. In smaller emerging markets such as Florida and Illinois, sales are in the hundreds of millions of dollars. It’s clear that the cannabis market is growing and there are ample investment opportunities.
However, the continuation of cannabis prohibition at the federal level complicates investors’ abilities to invest in cannabis companies. Cannabis is still classified as a Schedule I controlled substance, placing it alongside dangerous narcotics including opioids. Bipartisan, political support for a federal decriminalization law is slowly gaining traction on Capitol Hill, but legislation legalizing cannabis is still likely years away.
So the question remains; is it a good idea to invest in the emerging cannabis industry? The answer to that depends on one’s risk tolerance. There are several strategies available for investing in cannabis companies. Understanding what options are available, as well as fundamentals about the cannabis market, is the first step in determining whether or not the investment is worth it.
Understanding the Cannabis Market
When someone wants to invest in the cannabis market, what exactly does that mean? For starters, let’s identify the two main classifications of cannabis. The first is medicinal cannabis, where a licensed healthcare provider prescribes cannabis for patients who experience chronic conditions such as pain, anxiety, stress, and depression. The second is recreational cannabis, which is available to any adult in a state where legal sales are permitted.
Medicinal companies are oftentimes more established and mature businesses. Recreational companies are newer businesses that have the potential to make a lot of money in consumer sales. Performing research and analysis of revenue performance between recreational and medicinal cannabis companies is a good starting point.
Next, let’s break down the three different types of companies in the cannabis industry.
The first and most obvious business opportunity is with cannabis growers and retailers. These are companies that grow and cultivate cannabis plants, mostly for public-facing retail sales. The next opportunity is with cannabis-focused biotech companies. These businesses extract cannabinoids, the chemical compounds found in cannabis plants that cause psychoactive effects and therapeutic benefits, and use them to develop pharmaceuticals or other recreational products. The third type of business is referred to as ancillary product and service providers, or businesses that supply growers and biotech companies with hydroponic products, packaging, or marketing services.
Again, determining which type of cannabis business to invest in will come down to individual risk tolerance, as well as a solid understanding of potential financial performance and risk.
Given that Cannabis is an emerging market and a sector stock, it is generally considered a higher-risk investment. The plant is illegal at the federal level, which poses legal and financial risks. Due to the legal restrictions, banks and financial institutions are very restricted from financing cannabis companies. This is a major obstacle for cannabis businesses to access financial services that other fully legal industries enjoy.
Legal obstacles aside, there are business risks associated with the cannabis industry. This emerging industry routinely faces severe imbalances in supply and demand. Reliable consumer data on cannabis consumption is elusive and cannabis companies oftentimes overproduce or underproduce their products. One great international example of this can be found in Canada. Canada is one of the world’s first national cannabis markets. Upon legalization in 2019, Canadian cannabis growers aggressively expanded their capacity to meet perceived consumer demand. However, cannabis supply quickly outpaced consumer demand and prices plummeted as a result.
Many cannabis companies also perform over-the-counter stock trades. They are not required to file regular financial reports. Therefore, investors can’t accurately determine the risk of any particular cannabis stock.
Despite the risk, there are still plenty of options for investors looking to diversify their portfolios with cannabis stocks. There are two main investing options. The first is individual cannabis stocks. Like investing in any single stock, this is a high-risk option that can result in massive gains, as well as massive losses. If you have a high-risk tolerance, this could be a good choice. Carefully evaluate individual stocks and cannabis companies. Research the company and its management. Scrutinize available financial statements. Understand how many stocks they have issued and whether or not their stock is too diluted. In summary, perform due diligence before you start trading. The other option to consider is investing in a cannabis-focused exchange-traded fund (ETF). This is a lower-risk investment option, but still carries the potential for losses.
In any emerging market, it is important to exercise restraint. Overexposing your portfolio can put your financial well-being at risk. Ultimately, what you decide to do is based on your risk tolerance, the position of your portfolio, and your financial goals.
If you need the insight of a financial advisor, consider working with a Hazard & Siegel Independent Financial Professional. An Independent advisor will make the best decisions for you because he/she is not affiliated with an investment company, mutual fund, or specific investment product. Hazard & Siegel Independent Financial Professionals are part of a network of registered investment advisors, insurance professionals, and investment brokers. Our independent financial professionals are available to advise you on planning for your future including paying for college, wealth management, retirement planning, paying for long-term care, estate planning, insurance needs, and wealth transfer. When you need a comprehensive lifetime financial solution, contact us today at 315-414-0722, or visit our website at https://hazardsiegel.com/personal-investing