Is it high time to invest in cannabis?

With Democrats about to take over majority control of Washington, there is fresh momentum behind the notion of marijuana decriminalization at the federal level, which is already showing up in the performance of funds offering exposure to the space.

Regardless of where you stand on the topic of cannabis, it is difficult to ignore the way some exchange-traded funds offering exposure have taken off in the early days of 2021. The brand-new $72 million Global X Cannabis ETF (POTX) is up 55% this year, the $1.5 billion ETFMG Alternative Harvest (MJ) is up 39%, and the $46.5 million Amplify Seymour Cannabis (CNBS) is up 37%.

For perspective, the S&P 500 Index over the same admittedly brief period is up 1%.

For financial advisers and investors, instead of just jumping headlong into cannabis investing, the challenge is traversing a sector that is still populated with companies and funds hanging out on limbs connected to state-level marijuana laws that are technically in violation of federal laws.

“I definitely think now is the time, with the Democratic party having majority control and being able to make decisions regarding cannabis, to see the potential of where a lot of these regulations could go,” said Nathan Parkins, owner of Molei Financial.

“I would be adding these kinds of [cannabis-sector] investments to my personal portfolio right now,” he added. “But I would also be looking at the companies producing the technology and helping with distribution, fulfilment and compliance around cannabis and hemp in general.”

While marijuana use for medicinal purposes has been gradually gaining state-level momentum for decades, the flood gates were pushed open in 2012 when Colorado and Washington passed laws legalizing cannabis for recreational use.

Since then, decriminalization, from medicinal to full-blown recreational use, has become a staple of state-level elections, resulting in a U.S. map that now shows just 14 states still deeming marijuana illegal for any use. While it is not clear how far down the Democrat to-do list legalizing marijuana sits, or if it even finds its way onto the list, there is at least less fear than in recent years of federal law cracking down on state-level decriminalization.

“With more liberal leadership naturally tends to more liberal regulations and policies, and the cannabis industry could be a beneficiary of those policies, but as the saying goes, investor beware,” said D. Scott McLeod, president of Brown Advisory.

McLeod warns against leaping without carefully looking at what might seem like an easy strategy to ride.

“Cannabis, like any new product that comes to market, has the potential to create exciting investment opportunities that investors are often afraid to miss, but just like every other product or service new to the market, investors are not investing in the product they are investing in companies and those two things are very different,” he said. “A bad company with a great product will still tend to lose money, but a great company with even a mediocre product can produce profits for many years to come. Knowing the difference in an immature market is very difficult and it is very easy to lose your shirt investing in bad companies that do not have proven track records.”

The point is underscored by the somewhat diverse recent performance among the handful of ETFs offering exposure to the fledgling cannabis industry.

For example, MJ, the largest fund in the category, is enjoying a solid 39% in the opening weeks of January but produced an 11.6% decline last year.

Likewise for the $24 million Cambria Cannabis ETF (TOKE), which is up 28% this year on the heels of a paltry 1.3% gain last year.

The $87 million Cannabis ETF (THCX) is up 44.2% this year but gained just 4.2% in 2020.

Then there’s the $256 million AdvisorShares Pure Cannabis (YOLO), which is up 32% this year after gaining 47% last year.

Todd Rosenbluth, director of mutual fund and ETF research at CFRA, puts cannabis investing in the same category as other “long-term disruptive themes,” including cybersecurity, genomics, clean energy and online retail shopping.

“Unlike some of the other themes, cannabis is more likely to be related to supply and demand, which means even if demand accelerates, there’s likely to be a crowd of firms penetrating the market, which is different than other thematic trends,” he said. “Also, legality is a major factor, and cannabis could be viewed similar to a commodity, where there’s pricing power.”

Regarding the varied recent performance of the existing cannabis ETFs, Rosenbluth attributed that to the nature of thematic strategies. “The [performance disparity] is further proof that with thematic ETFs it is important to dig inside,” he said.

Related Topics: Cannabis