After A 50% Drop, Marijuana Stocks Are Finally A Buy Again

After extreme enthusiasm that drove pot stocks to ridiculous valuations, a 50% haircut from 2018 highs is making the sector look attractive once more.

Pot stocks, which were all the rage nearly two years ago, have finally begun working off the excess when investors bid up prices to unsustainable levels. Marijuana stocks still aren't cheap by any stretch but they've come down to earth enough to consider reentering the space ahead of the next leg up in stocks.

Catalysts For A Rally

  • Passage of the SAFE Banking Act
  • Passage of the STATES Act
  • Marijuana Legalization
  • Prices Coming Back Down To (Relatively) More Reasonable Levels

SAFE Banking Act & STATES Act

Both of these pieces of legislation relate to opening up the financial industry to legitimate marijuana businesses. The SAFE Banking Act would allow banks to provide financial services to legal businesses while the STATES Act would allow greater access to financial institutions for these companies.

These bills will not only allow access to the capital markets to fund growth and expansion, it also opens the doors for big institutions to begin entering the picture.

Valuations

On an absolute basis, pot stocks are still ridiculously expensive. Most of the big names in the industry at still trading at 20 times sales, compared to just 2 times sales for the S&P 500.

Screen Shot 2019-11-05 at 1.47.03 PM

This sector will be priced on potential for the foreseeable future but the price action on this sector reminds me of what we saw in the cybersecurity sector a few years. There was a period of exuberance, followed by consolidation, followed by a sustained rally higher.

Screen Shot 2019-11-06 at 10.05.51 AM

Now compare that to what we've seen thus far in pot stocks.

Screen Shot 2019-11-06 at 10.08.15 AM

The initial rally in marijuana stocks was nowhere near the straight line we saw in cybersecurity but investors definitely loaded up on shares once the Marijuana ETF launched at the end of 2017. Like HACK, it dove well below its launch price before the sector rallied as it exited the 2016 industrial recession.

Are we poised to see a similar rally now that recession risk is waning? I think so.

Legalization

While marijuana is slowly working towards mainstream acceptance, it's still fully legalized in only a handful of states.

Screen Shot 2019-11-05 at 2.05.47 PM

The biggest potential lies in the medicinal space where companies and governments are still working through logistical issues but the potential is huge once it begins scaling. As long as governments are looking at generating billions in tax revenue from legalization, I don't think there's any way they don't get it passed eventually.

Vaping Risks

Much of the negative sentiment in this space is related to vaping and the health risks it poses. While not directly related to marijuana use, it raises the risk that the public perception of "new" forms of smoking will have trouble jumping through all the legal hoops and the health risks are still largely unknown to the average person.

In reality, the health risks of smoking pot are much lower than that of vaping and it's likely a matter of time before the two get separated and the sector begins moving up again.

How To Play This In Your Portfolio

This is one of those sectors where it makes more sense to play the entire space rather than trying to pick individual winners. Names like Tilray, Cronos, Aurora Cannabis and Canopy Growth are the most well-known names right now but who knows how viable they'll remain down the road.

I'd consider accumulating shares here (disclosure: I already own shares of MJ). The original (and biggest) ETF in the space is the ETFMG Alternative Harvest ETF. It contains all the major players and represents a relatively diversified option for investors.

There are other marijuana ETFs that are all relatively new but they're so small that they don't really represent viable options until they grow larger.

ETFs To Consider

  • ETFMG Alternative Harvest ETF (MJ)
  • AdvisorShares Pure Cannabis ETF (YOLO)
  • Cannabis ETF (THCX)
  • Global X Cannabis ETF (POTX)
  • Cambria Cannabis ETF (TOKE)

If you liked this article, please click the LIKE button or share it on Twitter, Facebook, etc. using the buttons below.

Feel free to leave any comments, questions, or thoughts on the ideas presented here (and sign-up if you haven't already).

Follow me and receive periodic notifications when I post here by clicking the FOLLOW button at the top of the page!

Comments