What happened
Shares of cannabis companies Hexo (HEXO +0.00%), OrganiGram (OGI +3.42%), and Green Thumb Industries (GTBIF +5.75%) all rose in morning trading Tuesday by as much as 11.4%, 8%, and 6.9%, respectively.
The reason behind those big moves was likely a broad bounce for "risk-on" stocks in general after their long November swoon.
Image source: Getty Images.
So what
Even though Hexo and Organigram are Canadian companies and Green Thumb is a U.S. company, these stocks tend to move somewhat in sync. Cannabis stocks sold off in November as the prospect of higher benchmark interest rates pulled down valuations of growth stocks with low current earnings. Although the cannabis industry is forecast to grow by leaps and bounds, the combination of legal, regulatory, and tax hurdles in the U.S. market and high competition in the Canadian market means that most companies in the business are making minimal net profits at this point. For this reason, investors bid them downward along with high-growth tech stocks last month.
Additionally, even the Canadian pot stocks move based on news about possible regulatory changes in the U.S. For its part, Hexo also has operations that sell CBD products in 17 U.S. states. Many had hoped the provisions of the SAFE Banking Act would be included in the National Defense Authorization Act (NDAA) currently working its way through Congress. However, in November, the prospects for that happening dimmed. With Senate Democrats apparently holding out for more comprehensive cannabis reform, it looks like the banking relief many cannabis companies had been hoping for might not make it into the Senate's version of the NDAA. That prospect soured investors on the sector. Even an otherwise strong earnings report from Green Thumb in early November wasn't enough to boost its shares, which continued to fall throughout the month and are now about 50% below their 52-week highs.
The long slide likely teed up Tuesday's big relief rally, as there was no sector-specific news to speak of. With fears about the omicron COVID-19 variant moderating, investors bid many stocks upward, including the high-growth stocks and cyclicals that had been battered by the twin concerns of higher interest rates and a possible re-intensification of the pandemic headwinds.
Now what
Congress seems on track to pass the NDAA in the next few days, so this could be a big week for cannabis companies. If the SAFE Banking Act is included in the final version, cannabis operators will get access to lower-cost capital, as most carry high-interest debt. If not, it will be yet another delay on the road to what many view as the inevitable legalization of cannabis at the federal level -- though with each passing month, that inevitability seems more and more tenuous.
While Tuesday's share price moves were a welcome break from the recent downward trend, cannabis stocks may not realize their full potential until federal legalization happens. If it does, these companies will be relieved of the high debt and tax burdens that they must endure due to cannabis being a Schedule 1 drug, Canadian companies will be able to expand into the U.S. market, and institutional investors will be able to buy into the sector.
