Marijuana stocks have been on fire lately, but many investors understand all too well that so far, cannabis producers have only tapped into a tiny part of the potential market for their products. That's because despite efforts at the state level to legalize pot, marijuana remains illegal under U.S. federal law.

Lawmakers in Congress are looking to change that. The Strengthening the Tenth Amendment Through Entrusting States Act, known more familiarly by its STATES Act acronym, would eliminate the conflict between state and federal law, specifically enabling states to determine whether or not cannabis products will be legal for medical or recreational purposes within their borders. If it gets passed, the STATES Act could be a game-changer for marijuana stocks, because it would open the doors for cannabis companies to enter markets in dozens of jurisdictions in which they've previously faced an uncertain legal framework.

U.S. Capitol, as seen from left of center.

Image source: Getty Images.

What the STATES Act would do

A bipartisan group of senators and representatives introduced the STATES Act in 2018, with the intent of invoking the Constitutional amendment granting all powers not claimed by the federal government to the states. Under the legislation, the federal government would explicitly change the Controlled Substances Act so that it would not apply to marijuana in jurisdictions in which companies are acting in accordance with state and local law. In other words, there would no longer be any conflict between state and federal law, because the federal law would specifically recognize the state's right to control marijuana within its borders.

The STATES Act would also take steps to recognize the commercial value of hemp products. Just as the recently passed farm bill made hemp legal in the U.S., the STATES Act would change the legal definition of marijuana to exclude hemp used for industrial purposes.

Of perhaps the most importance to cannabis businesses, the STATES Act would make it clear that financial institutions seeking to help marijuana producers and related businesses conduct banking transactions would not be subject to prosecution for drug trafficking or related financial crimes. The specific language in the law would note that proceeds from any marijuana-related transaction covered by the STATES Act wouldn't be considered proceeds of an unlawful transaction for other federal purposes.

The STATES Act doesn't get rid of all federal restrictions

The STATES Act doesn't pass the torch of cannabis regulation entirely to state governments. The law keeps language that marijuana businesses are not allowed to hire employees who are under age 18 in their cannabis operations. It also prevents the sale of marijuana to those under 21 other than for medical purposes, and distribution of marijuana at rest areas, truck stops, and other transportation safety facilities would be prohibited.

Yet even with those continuing restrictions, many politicians at the federal and state level have supported the STATES Act. Governors of many of the most prominent states that have legalized marijuana for medical or recreational use have signed letters of support for the legislation, and dozens of lawmakers on Capitol Hill have cosponsored the bill. That said, Republican Sen. Mitch McConnell of Kentucky blocked efforts to have the legislation included in an amendment late last year, which shows that there's still opposition to the STATES Act.

Watch Washington for more

For years, small marijuana operations in the U.S. have relied on nebulous and questionable internal guidelines within federal law enforcement agencies that dissuaded officials from enforcing laws governing cannabis. The danger of that reliance became clear when former Attorney General Jeff Sessions made changes to those guidelines.

If the STATES Act passes, then it would remove the largest overhanging risk for U.S.-based cannabis companies. That in turn would lead to a massive stampede among established Canadian marijuana stocks like Canopy Growth (NYSE:CGC) and Aurora Cannabis (NYSE:ACB), as well as new business operations domestically to see which could most quickly serve a massive, newly opened market for their products. Passage is far from certain, but with growing trends favoring legalization of marijuana, the prospects for the STATES Act becoming law look better than ever.

Check out the latest earnings call transcripts for Canopy Growth and other companies we cover.