The one thing that could send pot stocks soaring in a hurry is the federal legalization of marijuana in the U.S.
If and when that happens, it'll not only be possible for cannabis companies to move their products legally across state lines but it could also result in a flurry of mergers and acquisitions. Canadian companies like Canopy Growth (NASDAQ:CGC) are especially eager to tap into the lucrative U.S. pot market. Last year, the company entered into a tentative agreement to purchase multistate cannabis operator Acreage Holdings (OTC:ACRGF) for $3.4 billion -- but only once marijuana becomes legal in the U.S.
When that happens is anyone's guess at this point. But Canopy Growth's new CEO, David Klein, believes that day is coming soon. He says that it could happen as early as 2022, and it won't depend on who's elected president in November.
Why he thinks it'll happen soon
Klein believes it's only a matter of time until the federal government legalizes marijuana. In an interview with Yahoo! Finance Canada, Klein said:
Every single state that adds cannabis as a legal product puts a little more pressure on the federal government not to make criminals of people operating legitimate businesses.
However, he did concede that it may also take until 2025 before legalization takes place.
Legalization by 2022 is a long shot, at best
The best-case scenario for the cannabis industry is that the federal government will legalize medical marijuana -- not the recreational market, as Klein projects -- in 2022. There are only 11 states (plus D.C.) that have legalized pot for recreational use compared with the more than 30 that have done so for medical purposes.
Legalizing pot for recreational use would involve significant legislative progress on cannabis, and that's just not something we've seen up to this point. Even something as simple as giving cannabis companies access to banking services isn't an easy win. The SAFE Banking Act went nowhere after passing the House last year. Lawmakers recently included it in the HEROES Act, which was deemed "dead on arrival" and had many Republicans wondering why there was so much mention of cannabis in a stimulus bill.
If lawmakers from both sides can't even agree on giving cannabis companies access to the banking system, outright legalization can't be anything more than a pipe dream. Federally, marijuana is still a schedule 1 substance along with heroin and ecstasy. It would need to be reclassified out of schedule 1 before legalizing pot could be realistic, and that change is nowhere in sight, either.
There hasn't been much movement in marijuana reform at the federal level, and with the COVID-19 pandemic still raging and an economic recession to worry about, it's hard to see a scenario where cannabis reform isn't on the back burner in the coming years.
A more realistic target is 2025, but that's by no means a guarantee.
Investors should focus on the near future
It's tempting to think about the long-term growth opportunities that may exist for Canopy Growth and other pot stocks once marijuana is legal at the federal level in the U.S. But looking too far ahead is what got cannabis investors into trouble in the first place and sent the valuations of many marijuana companies to unsustainable levels before they ultimately crashed to the floor when reality set in.
Rather than worrying about what might happen over the next five years, investors should be looking at businesses as they are today and the foreseeable future. Forecasting where a company may be at the end of the COVID-19 pandemic is already difficult, let along trying to guess when the federal government will make significant marijuana reforms.
Any cannabis stock that will be around when federal legalization takes place will benefit from it, whether it's in the U.S. or in Canada -- that's almost a given. But the key to generating significant long-term returns is getting to that point, and a business needs to be in good shape to take advantage of those opportunities once they present themselves.
Canopy Growth is a great example of a company that's in a solid position. It had 1.3 billion Canadian dollars ($95 million) in cash and cash equivalents on its books as of March 31 and it enjoys the involvement of Constellation Brands (NYSE:STZ), the alcohol giant that now owns 38.6% of the company. Thus, this pot stock's one of the safer, more stable buys in the industry. And with its deal with Acreage waiting in the wings, Canopy Growth is ready to go once it gets the green light from the U.S. government.
Expecting legalization to happen shouldn't be the reason you decide to invest in marijuana stocks. Instead, you should base your decision on the company's financial health and its growth prospects, regardless of whether federal legalization happens or not.