The marijuana industry has been practically unstoppable in recent years, with that momentum carrying over into 2019. Through the first three months of the year, the broad-based Horizons Marijuana Life Sciences ETF has risen by approximately 60%.
According to Wall Street investment banks, this is an industry forecast to grow at a double-digit annual pace for years to come, with some analysts pegging annual global sales at between $50 billion and $75 billion by the end of the next decade. Presumably, with growth this robust, it's going to lead to some hefty gains for investors.
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Marijuana stock investors should be prepared for a wild ride
But investing in the marijuana industry probably isn't going to be as cut-and-dried as you'd think. Canada, the first industrialized country in the world to legalize recreational weed, is contending with multifaceted supply issues. The ongoing ramp-up of production from growers, packaging shortages, and regulatory red tape associated with Health Canada's cultivation license application process, are all reasons our neighbor to the north has sold just under $153 million in cannabis stores between Oct. 17 (the date adult-use pot became legal for sale) and Jan. 31. Mind you, analysts foresee up to $6 billion in Canadian sales by 2022, but the country is possibly on track for less than $500 million in sales in its first year of adult-use legalization.
California, the fifth largest economy in the world by gross domestic product, and the supposedly largest "legal" weed market in the world, has also struggled mightily. Tax revenue collected by the state was nearly 50% lower than expectations, with oversupply and red tape concerning dispensary license permits weighing on the industry.
So what should pot stock investors do to maximize their chance of making money in this industry? The answer, which might surprise some folks, might be to focus your attention on companies that are targeting medical marijuana consumers.
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Four reasons medical marijuana stocks deserve your attention
Even though the recreational market is projected to tower over medical cannabis sales, there are four reasons investors would be smart to hone in on medical marijuana-focused stocks.
To begin with, medical marijuana patients are far more likely to use cannabis products and be willing to open their wallets than recreational pot users. In the quarterly released National Cannabis Survey, published by Statistics Canada, 95% of medical users with documentation reported spending money on cannabis over the past three months, whereas only 57% of recreational users reported spending money on weed. Further, 70% of medical users with an issued medical marijuana card used pot daily, compared to about 20% of recreational consumers. In essence, this smaller pool of consumers can generate more predictable cash flow and usage than the adult-use market.
Second, medical cannabis consumers are also more likely to choose alternative products. Rather than smoking dried cannabis flower, which has been shown to be oversupplied and commoditized in a number of recreationally legal U.S. states, medical pot patients prefer alternatives like cannabis oils, edibles, vapes, concentrates, or cannabis-infused beverages. By this coming fall, edibles, extracts, topicals, and nonalcoholic cannabis-infused beverages will all be legal for sale in Canada. The reason this is so important is because alternative products almost always have a higher price point and juicier margins than dried flower.
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A third reason, which sort of builds on the previous point, is that alternative products are far more likely to attract brand-name partners. For example, last August Molson Coors Brewing (TAP 1.63%) announced a joint venture with Quebec-based grower HEXO (HEXO +0.00%) to research and develop cannabis-infused beverages. Molson Coors would have had little interest in the dried flower side of things, even though it, too, is part of the vice industries. However, HEXO's desire to reach the higher-margin medical cannabis audience, combined with Molson Coors' precipitously declining beer market share in Canada, created the impetus for HEXO and Molson Coors to get together. Now, the duo will be launching cannabis-infused beverage later this year under the Truss brand.
Fourth, and finally, focusing on medical cannabis could actually prove to be a larger market than recreational weed for at least a few more years. With the exception of Canada and Uruguay, no other countries have given the OK to adult-use pot. However, there are more than 40 countries worldwide that do allow medical cannabis use in some form. Even if the long term favors additional recreational legalizations, the market is there right now for medical marijuana-focused companies.
Two brand-name pot stocks betting big on medical cannabis
Although most marijuana stocks are placing their bets predominantly on the recreational market and its presumed larger pool of potential consumers, two brand-name pot stocks are placing sizable bets on the medical side of the market.
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Aurora Cannabis (ACB 4.30%), the forecast largest grower by peak yield, noted in its second-quarter operating results press release that it would be turning its attention to the medical marijuana market. Aurora Cannabis, which actually generated more revenue from medical pot patients than the recreational market in its fiscal second quarter, already has a presence in 24 countries worldwide. This provides plenty of opportunity for the company to export its product overseas in order to avoid potentially weak per-gram pricing in Canada. And since medical weed users are more willing to buy alternative products, Aurora has also devoted a good portion of its portfolio to softgel capsule production and cannabis oils, with an expected push into edibles and infused beverages in the coming months.
We've also seen Tilray (TLRY +0.00%) lean toward medical cannabis consumers. In the company's quarterly conference call, CEO Brendan Kennedy announced that Tilray would be turning its attention to long-term opportunities in Europe and the United States. At the moment, the only major U.S. opportunity is hemp. Rather, Tilray's push into Europe should open the door to growing medical marijuana use throughout the EU. Tilray is far behind Aurora Cannabis in terms of peak production capacity, but it does have well-recognized medical pot brands in Canada, along with a global distribution partnership with Novartis' generic-drug subsidiary Sandoz. This partnership is for non-combustible medical marijuana products, or in plainer English those high-margin alternatives we've been discussing.
Understandably, the pot industry is still in the very early stages of its expansion. But given the advantages described here, it wouldn't be a bad idea to give medical marijuana-focused pot stocks a closer look.
