Frontier industries are exciting. From the spice trade during the age of discovery to the California gold rush, throughout history humanity has thrown caution to the wind and in the pursuit of riches when new markets open and the promise of a quick buck cause people not to see straight.
While things have gone a little quiet on the frontier in the last year, few industries inspire as much unrealistic optimism as the legal cannabis industry.
Cannabis or marijuana became legal for production, sale, and use in late 2018 and the floodgates opened from there. While “weed stocks” have been on an upward run as of late, with the North American Marijuana Index up over 60% so far this year this is on the heels of a disastrous 2018 and 2019. In face investors who bought into the index at the time it was created would have seen their investment drop 49% over two years and would only now be breaking even, assuming they held on the entire time.
But besides big promises and swings in price is there anything to the promise of legalized Marijuana? Let’s consider each of the areas people point to:
For years this has been discussed as a therapy for almost anything that everything with various cannabis companies are claiming to have pattented strains to work on countless illnesses. But do they? No one really knows. For decades marijuana research was prevented due to its legal status, so the type of widespread scientific study required to confirm these claims are only in the early stages of being done, and so far the results aren’t good. At 2019 Conference in Ottawa, a chief underwriter for a major insurance company told over 300 attendees that there was next to no research proving any of the claims and the studies that had come back to date were all failing miserably. In fact, the data that was there was showing that the use of the product was detrimental to the development of adolescent brains and those with PTSD.
One of the main arguments that come up for the expansion of consumer adoption is the case of edibles. Everything from a beer alternative to candy and baked goods. Only two problems here.
First, no one has proven that consumers will drink a THC-laden beer alternative on mass. The second is apparent to anyone who has children. Pot brownies, gummies, etc pose an enormous health risk to the people most attracted to the normal versions of those foods, kids. And to them, a “normal” dose can be toxic. So much so that countless doctors have warned against government approval of these kinds of goods having already seen large increases in emergency room cases. If they do see the light of day, will they be able to survive the bad press and human impact on our most vulnerable?
Now that any Canadian who wants weed can get it, where does the growth come from? In addition to edibles, (legal) export markets are often cited as an area for growth. Sounds good at first, but are we really to believe that other countries can figure out factories and hydroponics especially when domestic weed manufacturing can be a source of job growth? I’m less convinced.
Sale & Margins
The last consideration comes down to some key considerations regarding the pricing of weed itself. The minimum price for weed is set by the government and they have the incentive to price it low. Why? Because despite the legalization of it, the black market for weed is still thriving, and every sale lost by legal weed providers to the black market is lost tax revenue for the government. People can make up all the names they want for different strains, but other than the most devoted followers, to most people, weed is weed. That makes it a commodity that is in turn highly price sensitive. And who wins in a race to the bottom on pricing? Companies with massive scale. On the manufacturing side, weed will likely become like all other commodity products over time and become very price sensitive with the need for enormous growing and processing facilities to turn a real profit. When it comes to distribution, it’s not going to end up being local weed shops that end up distributing most of the product. It will be the Loblaws Pharmacies/Shoppers Drug Marts and Rexall’s who do and have already applied to do so. In the end, profits from this product, like so many others, will likely be concentrated in the hands of the few.
So what is an investor to do? Even if you are convinced that this is going to be a huge industry and you want to get in on it, the issue is that early innovators in this space don’t often end up being long-term winners. Does everyone remember AOL? And even if it is successful, will it be more successful than the returns that could be earned on the rest of the stock market?
Right now legal cannabis remains a highly speculative industry and should be treated with caution. Until all the claims of medical wonders and alternatives to carb-heavy beer start to become reality, approach with extreme caution.