How to Buy Stock in American Cannabis Companies

Thematic investing always involves a key decision – stock pick, hold an ETF, or do both. Sometimes, there aren’t enough quality pure-play companies to build an ETF with, like the space theme. Sometimes there are far too many good companies to choose from, as is the case with the cybersecurity theme. And sometimes you have a lot of bad thrown in with some good, wrapped in a thick coating of regulatory uncertainty. That’s where we’re sitting with the cannabis theme.

The first cannabis ETF is no longer the biggest cannabis ETF. That award goes to the ETFMG Alternative Harvest ETF (MJ), which has now amassed over $1.4 billion in assets under management (AUM). Here’s a look at the top 10 constituents of that ETF as of today.

The top 10 constituents of the ETFMG Alternative Harvest ETF - Credit: ETFMG
The top 10 constituents of the ETFMG Alternative Harvest ETF – Credit: ETFMG

Notice something about the above list? It’s a collection of Canadian cannabis stocks like Canopy Growth. It doesn’t contain a multi-state operator (MSO) from the United States. A hint as to why can be found by looking at the top 10 holdings of the second biggest cannabis ETF, the AdvisorShares Pure US Cannabis ETF (MSOS), which has $817 million in AUM.

The top 10 constituents of the AdvisorShares Pure US Cannabis ETF - Credit: AdvisorShares
The top 10 constituents of the AdvisorShares Pure US Cannabis ETF – Credit: AdvisorShares

Notice anything funny about the above securities? The word “swap” refers to a total return swap the ETF uses to capture the performance of U.S. stocks trading on Canadian exchanges. The ETF provider filed a 28-page letter to the SEC detailing why they believe what they are doing is legal because cannabis is currently illegal at a federal level. That regulatory complication is why we’re so apprehensive about the cannabis opportunity. When federal legalization actually happens, the landscape will shift dramatically as companies execute on whatever it is they’re all planning to do when the big day comes. In the meantime, investors are getting antsy because there’s a lot of opportunity in ‘Murica right now.

Canada vs. The United States

The reason investors get so excited about the United States is because it’s the biggest recreational cannabis market in the world, completely dwarfing Canada. When illicit cannabis dealings are taken into account, the opportunity becomes colossal. A recent Forbes piece estimates the U.S. black market to be around $100 billion in size.

Cannabis sales in 2020
Cannabis sales in 2020 – Credit: Nanalyze

The U.S. market as it sits today is about 6X the size of the more mature Canadian market, and the black market is 5X the size of the U.S. legal cannabis market. It’s clear why investors are so excited about the recreational cannabis opportunity in the United States. For the best pure-play exposure to the U.S. cannabis growth story, we need to look at the largest MSOs.

The Biggest American Cannabis Companies

The last time we looked at The Biggest Cannabis “Multi-State Operator” Stocks was back in 2017, and we’re curious how their relative sizes have changed over time. Here’s a look at the market caps then and now (company names are linked to relevant past research).

4 Years AgoTodayCanada TickerUS Ticker
Curaleaf 4.58.3CURA.CNCURLF
Cresco Labs3.42.6CL.CNCRLBF
Harvest Health & Recreation2.60.79HARV.CNHRVSF
Acreage Holdings1.90.21************
GTI1.76.6GTII.CNGTBIF
MedMen1.50.18MMEN.CNMMNFF
Trulieve 1.23.4TRUL.CNTCNNF
Columbia Care1.11.3CCHW.CNCCHWF

The three biggest names on that list -,Curaleaf, GTI, and Truelieve – are the same ones featured in our June 2020 piece on Three Billion-Dollar U.S. Cannabis Stocks. The biggest one, Curaleaf, is also responsible for Acreage Holdings not having any tickers listed above. The two companies did this weird corporate event thingy and shares of Acreage suddenly started trading under two tickers. If you need a secret decoder wheel to figure out which stock ticker to invest in, it’s too complicated to waste time on.

If you sum the market cap of the biggest cannabis companies in the United States you get about $23.4 billion. Curaleaf accounts for 35% of that number and is currently the largest American cannabis stock out there.

Bar graph chart showing the biggest American cannabis companies by market cap - Credit: Nanalyze
The biggest American cannabis companies by market cap – Credit: Nanalyze

Purchase the top four stocks listed above and you’ll be covering about 90% of the opportunity. Now the question becomes, is it legal to buy stock in American cannabis companies?

Are U.S. Cannabis Stocks Legal?

Many people have posed this very good question. We have absolutely no idea, but knowledge of the black market tells us that the government likes to hunt the biggest fish possible. Joe retail investor doing due diligence on Saturday afternoons in his underwear won’t be who the SEC targets if they want to clamp down. Look at the hierarchy:

  • Joe retail investor’s account
  • Joe retail investor’s broker who sold him the shares
  • The exchange on which Joe retail investor’s broker bought the shares from
  • The companies that allow their shares to be listed on an exchange

Any number of things can happen, but we know that the U.S. is increasingly moving towards relaxing cannabis laws, and if they do crack down on these Canadian traded MSOs, it will be likely at the exchange level.

Should You Buy American Cannabis Stocks?

Uncertainty equals risk. As risk-averse investors, we don’t like the uncertainty surrounding cannabis legalization at the federal level which can take many shapes and forms, something we discussed in a piece earlier this year – When Will Cannabis Be Legal at the Federal Level?

When legalization does start to bear fruits, stock prices will respond accordingly. You could get in front of that wave by purchasing a handful of the largest MSOs. Here’s how the top five MSOs stack up using our simple valuation ratio (the higher the number, the more dollars your paying for revenues).

  • Curaleaf – 11
  • GTI – 9
  • Trulieve – 7
  • Cresco Labs – 4
  • Colombia Care – 5

We would never invest in a stock with a ratio of 40 or higher, and all these companies are well under that threshold.

Once the dust settles following whatever legalization events unfold, it’s likely the industry will undergo some consolidation which could involve tobacco companies like Altria Group (MO), or alcohol companies like Anheuser-Busch InBev (BUD). At that time, some clear leaders might emerge, and you could invest in the cannabis theme with a lot less risk and uncertainty.

It’s also worth adding that the black market marijuana grower will not just lay down his arms and surrender. Old school recreational marijuana aficionados know that some of the best strains known to man are not found in dispensaries for whatever reason. The cannabis market in the State of California is under constant pressure from black market growers who still command about 30% of the State market. The government can put all the rules and regulations in place they want but they won’t be able to control an economy that’s been operating under the radar successfully for decades.

We also need to consider just how defensive the cannabis industry is against economic turmoil. People always seem to have money for beer and cigarettes, but they might settle for a cheaper brand of swill when times get tough. As for cannabis, there’s a lot of fat right now when it comes to pricing. What happens if people decide they don’t need to buy that $15 package of edibles which contains 100MG of THC when there’s Rick Simpson Oil which tastes like rubbish but comes in a 1,000MG vial for $15? When you buy most edibles, you’re paying 10X as much for the active ingredient than you could be. Is the growth sustainable if consumer spending starts to dry up?

How to Buy Stock in American Cannabis Companies

Finally, we arrive at the big question. Since all you Americans aren’t sure about the legalities, we’d like to ask you all to stop reading now. Thank you for that. Now that our own CYA is out of the way, here’s how to buy American cannabis companies that trade on Canadian exchanges.

Canadian Exchange

We hate saying this but you really should use Interactive Brokers if you want to trade foreign stocks. They’re just the best brokerage firm for trading international stocks, even though those jerk offs never paid us commissions they owed us after we participated in their affiliate program for several years and opened dozens of accounts for them.

Last time we checked, you needed $10,000 to open an IB account and, hopefully, that’s the case today. The only type of investor that ought to be dabbling in cannabis stocks is one with lots of money who can afford to lose some of it. And you need to buy and hold with long horizons because that whole “stock trading your way to wealth” thing is a myth.

American Exchange

But isn’t it illegal for American pot stocks to list on American exchanges? Yes, but this is kind of different. Many foreign stocks trade on the over-the-counter (OTC) exchange, and we’re not talking about marijuana penny stocks, or any penny stock for that matter. It’s standard practice for brokers to make foreign stocks available on the OTC market so that U.S. investors can access them. This has been going on for decades, and it’s not specific to cannabis stocks. In the finance world, they call these “American Depository Receipts” or ADRs. We’d advise against using this route for several reasons.

The companies that make these ADRs available aren’t acting altruistically. There will be fees embedded somewhere. When it comes to trading the assets, there will be wide “bid ask spreads” where you’ll be scalped when you trade them. If you’re going to buy American companies which are risky enough already, take the less risky route and buy them on the Canadian exchange.

Conclusion

Federal legalization of cannabis in the United States will suddenly attract loads of new cannabis investors, many being retail investors who think small-cap stocks are cheaper than large-cap stocks. The stock market is only kind to those who take a long-term view, and the cannabis sector has plenty of room to grow. Investing in four or five of the largest American cannabis companies wouldn’t be a bad way to get in front of the inevitable legalization wave that’s coming.

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