There are very few industries that offer the growth potential of legal marijuana, which is probably why investors have flocked to marijuana stocks over the past year. Many with a market cap of $200 million or more have doubled or tripled in value.
At the heart of investors' excitement is a surge in legal sales and a change in the public's opinion toward weed.
According to practically every source or report, the legal cannabis industry is on pace for long-term annual growth of around 25%. Cannabis research firm ArcView is expecting North American legal pot sales to grow to north of $22 billion from almost $7 billion between 2016 and 2021, while investment firm Cowen & Co. used its crystal ball to predict $50 billion in legal U.S. weed sales by 2026. Considering that a majority of marijuana sales are still conducted under-the-table, investors see a ton of potential in incrementally converting some of these illegal purchases into legal sales.
Image source: Getty Images.
Investors are also excited about the improving opinion of marijuana by the American public. Gallup, which has sporadically polled Americans about their favorability toward legalizing recreational weed for nearly five decades, found in its 2016 poll that an all-time high of 60% support the idea. Likewise, an April CBS News poll showed similar favorability, with 61% in favor of a nationwide legalization.
The federal government remains a thorn in the marijuana industry's side
Though it may seem as if the marijuana industry is unstoppable, the federal government remains its biggest thorn. Let's not forget that despite 28 states having legalized medical cannabis and residents in eight states having voted to legalize recreational weed, marijuana is still a schedule I drug at the federal level. In effect, it has no medically recognized benefits and is entirely illicit.
The federal government's scheduling of pot makes for a bit of a nightmare for marijuana businesses and investors. For example, lawmakers have suggested that they want additional clinical evidence of marijuana's safety and efficacy before they'd consider reviewing it for possible rescheduling. Yet, its current scheduling makes running these clinical studies practically impossible.
Additionally, pot's schedule I status makes life very difficult for weed businesses. Far too few have any access to basic banking services, including something as simple as a checking account, and companies that sell a federally illicit substance like marijuana are disallowed from taking normalized corporate income-tax deductions. In short, marijuana stocks and pot-based businesses really get the short end of the stick.
Image source: Getty Images.
Making matters even worse for marijuana stock investors, White House press secretary Sean Spicer commented in February that the Trump administration would approach the federal enforcement of marijuana differently than the Obama administration. While Trump has previously backed patient access to medical cannabis and states' rights in determining that access, he hasn't had those same views of recreational marijuana. Spicer's commentary led some pundits to suggest that Trump could beef up the federal regulation of recreational marijuana, which seems all the more plausible with ardent marijuana opponent Jeff Sessions as Attorney General.
California goes toe-to-toe with the Trump administration
However, one state is fighting back.
In November, residents in California voted pretty decisively to legalize recreational marijuana via Prop 64. Once licenses are distributed and California waves the proverbial "green flag" on pot, tax and licensing revenue is expected to grow by $1 billion annually, if not more. But, that revenue is in jeopardy if the Trump administration tightens federal regulations surrounding marijuana.
With this in mind, as reported last week by the Los Angeles Times, California's state Assembly passed a bill that would bar state and local officers from assisting federal drug agents (save for instances where a court order was present) in arresting people who are in compliance with California's recreational marijuana laws.
The measure, known as AB 1578, was put forth by Assemblyman Reggie Jones-Sawyer (D-Los Angeles) who had this to say:
"AB 1578 ensures that our limited local and state resources are not spent on federal marijuana enforcement against individuals and entities that are in compliance with our laws."
Image source: Getty Images.
The bill now moves onto the Senate in California, and if it passed it could serve as a so-called "marijuana sanctuary state" clause that other legal weed states implement.
But, as you might expect, it also has its fair share of opposition. Republican lawmakers in California along with law enforcement opposed the measure, which nonetheless passed. Republicans were particularly scathing of the legislation, suggesting that it would harm the relationship between California's police officers and federal drug agents in their efforts to put an end to illegal drug channels.
One step, but a long way to go
Depending on the outcome of AB 1578, marijuana stock investors may have something to cheer about. Passage of this bill would likely remove a lot of the fear businesses and consumers may have while growing, selling, or purchasing marijuana. It may even open a door that allows banks the opportunity to more freely lend to pot businesses, albeit that's pure speculation on my part at this point.
Unfortunately, it doesn't resolve the industry's biggest issue: its schedule I categorization. It's looking extremely unlikely with Republicans in control of both house of Congress and Trump in the Oval Office that cannabis has any shot of a rescheduling prior to the next presidential election. For marijuana stocks it means a strong likelihood of losses continuing for most companies.
Image source: Getty Images.
For instance, investors in cannabinoid-based drug developers could be playing with fire. Not only do companies like Zynerba Pharmaceuticals (ZYNE) and AXIM Biotechnologies (AXIM -10.90%) have exceptionally high valuations, but they continue to burn through their cash on hand and have virtually no chance of profitability (on a recurring basis) before 2020.
Zynerba ended its latest quarter with $77.5 million in cash, which it deems sufficient to last through 2019 and run through five late-stage trials. Unfortunately, two of its five trials have yet to even hit the dose-finding stage, and the other three studies haven't yet yielded efficacy data. In other words, investors have been buying blind.
The same could rightly be said for AXIM Biotechnologies, which has a pipeline that's more than a dozen trials deep, yet it had less than $1 million in cash on hand as of the end of 2016, which is nowhere near sufficient to run its studies.
California going toe-to-toe with the Trump administration is a potential step in the right direction for the industry, but it's far from a cure-all for pot stocks.
