By: Nicholas Bryan
One of the hottest trends right now in the equity market is marijuana. Cannabis legalization is slowly making its way across North America (with Canada leading the way), and investors are looking to cash in. The market for marijuana is set to grow substantially over the next few years. The current market is valued around $8.5 billion with sales set to be around $23.4 billion by 2022. Everyone is trying to hop on the Cannabis train in fear of missing out on such a lucrative new investment opportunity, but little research is usually done by these investors. Here are four areas of risk that investors should understand before making the leap into these investments:
1) FDA Approval is Expensive & Tedious
There is a lot of uncertainty in the marijuana market right now about regulations. Currently, marijuana is not regulated by the FDA, but the trends are moving in that direction. Alcohol and cigarettes are regulated by the FDA and cannabis is also being regulated by this agency. To date, the FDA has only approved Epidiolex for the treatment of seizures. The drug contains cannabidiol, one of more than 80 active chemicals in marijuana.
In the future, look for additional regulation on marijuana products, whether that be certain labeling or procedural changes in manufacturing and distribution. If marijuana does get hit with FDA regulations, it would cause marijuana companies to shell out large sums of money to meet regulations.
2) Cannabis is a Commodity
Cannabis is a commodity, the same as corn, sugar, and soybeans. We have seen recently how much commodity prices can move when watching the price of soybeans. Prices have fallen in states where the production of the plant is legalized. Marijuana will not be able to escape the same issues commodities have had throughout history. Weather conditions, water supply, and input costs are all factors that have potential to influence the price and supply of marijuana. On top of everything else, marijuana is harder to grow than other food commodities, and a profitable, healthy crop is not guaranteed.
3) Marijuana Stocks are in a Bubble
Investment bubbles pop frequently, as seen in the housing market in 2008 and with bitcoin in as recently as this year. A bubble is a rapid acceleration of an asset followed by an even faster contraction. People have seen the surges in marijuana stocks and don’t want to be last on the train, so everyone is buying. However, as it was seen with Tilray, asset prices quickly decline and investors are willing to liquidate at any price they can get.
4) Tangible Profits are a Ways Away
The main issue for investing in marijuana is dilution of the market will put pressure on per share profits. There are more shares outstanding, which means there are more shares outstanding for net income to be divided into. In effect, this will decrease earnings per share (EPS). Also, marijuana stocks are losing money. If you look at operating expenses, almost every stock is losing money. Many companies have adjusted the value of biological assets to show quarterly and annual profits.
Keep in mind this post is not to deter people away from investing in marijuana, because it is a viable business option. However, the time to invest may not be today. As the marijuana market matures and more states begin to move towards legalization, it will prove to be an opportune time to move into the market. Anyone investing now, especially in funds or private placements, should look for higher return numbers to justify the additional risks.