Register for Free to get streaming real-time quotes, interactive charts, live options flow, and more.
With CBD all the rage and a steady trend towards legalization of recreational weed, the cannabis industry is attracting plenty of attention in the investment world. The numbers certainly look good – Statista suggests global spending will nudge the $30 billion mark in 2020. However, there are also Wall Street fears of a market slow-down, with some analysts suggesting supply is set to outstrip demand. Clearly investors need to tread carefully and keep their wits about them in this market. Here are the key steps in minimizing risk and maximizing your chances of coming out on top.
Know the market
Broadly speaking, the commercial cannabis industry is occupied by three types of businesses. The first, most obviously, is the growers and retailers. These include major cannabis farms, but also suppliers of cannabis seeds for home cultivation. Then there are the biotech companies that develop drugs that are based on cannabinoids. Finally come the peripheral support businesses, manufacturing and supplying everything from hydroponics and lighting systems to bongs and vaporizers.
The prerequisite to mitigating risks is to fully understand them. The cannabis industry has some very specific risks that set it apart from other sectors in your portfolio.
Legal risks
The most glaring area of risk is the legal environment. Yes, right now, things are looking rosy with states moving in the direction of legalization, and a general atmosphere of increased tolerance in the wider world. However, this is a new market, and there is always the potential for the DoJ to clamp down if it sees reason to do so. Also keep in mind that cannabis is still officially illegal under federal law. From a practical perspective, that is a moot point, and states have been permitted to do their own thing. However, the federal legislation does mean that banks are restricted in the financial products they can offer cannabis businesses.
Supply and demand
Clearly, supply and demand are core concepts for any investor to consider when evaluating a stock. The picture in the cannabis sector is far from clear. When Canada legalized recreational cannabis, growers jumped in with both feet, undertaking massive expansions. Months later, they were forced to cut back on production. Is the same pattern emerging in the USA? Only last week, major cannabis producer Aurora’s share price plummeted by almost 30 percent due to forecasts of falling sales. It prompted analyst Bill Kirk to pen a research note headed “Please Stop Growing So Much Weed.”
Internal risks
Without doubt, the cannabis marketplace is a unique one that carries very specific risks. But don’t let that blind you to the basics. Internal risks are just as liable to bite you, so before buying stocks do your due diligence. Analyze the management team, the financials and the business’s growth strategy. When investing in growers, those with the lower cost structures are generally the most competitive and sustainable in the long term. The specific metric to look out for is the all-in cost per gram.
