By Michael Kahn
(This story was originally published April 17.)
Even though marijuana is still illegal on a federal level, companies already are profiting from legal medical weed. And many are positioning themselves for the pending explosion of demand from the likely legalization for recreational use.
Without getting into a debate over what should be legal and what might be harmful, there is no denying that the ball has begun to roll. Support for legalization is now up to 60% in the U.S., according to an October 2016 Gallup poll.
We can see this in the stock market as well. Earlier this month, the first exchange traded fund that tracks stocks in the legal medical marijuana industry began trading on the Toronto Stock Exchange. The Horizons Medical Marijuana Life Sciences ETF /zigman2/quotes/208856346/delayed CA:HMMJ -1.33% is averaging about 1.7 million shares traded daily, so investors are quite interested in it.
The value that this sector offers to investors is a play on lifestyles. As with companies catering to the needs of millennials and aging baby boomers, marijuana seems to be what a large portion of the population wants.
However, in the past, sector ETFs usually do not appear until the hot sector is already very well-known. That is when investors are already fully engaged and the ETF finds itself trading flat to lower for quite a while. For marijuana, rather than enjoying long bull markets, many individual stocks here have been struggling for years. They really did not start to move higher until late last year, and even so, many have not fared well this year. That is hardly a peak in sentiment and acceptance for the new ETF.
However, fortunes for these stocks seem to be changing yet again, and this time for the better. A website called The Marijuana Index has been tracking their own basket of stocks in the U.S. and Canada and offers 28 months of price data. As we can see in their chart, the trend changed from down to slightly higher last year. (Please see chart 1.) Then the index exploded higher in September for many reasons, including progress on patents, sentiment and a buyout rumor of one of its largest component stocks.
But a trend is a trend, and a breakout is a breakout.
Recently, the index settled into a trading range that some chart watchers might call a bullish triangle or flag. The pattern is not a “buy” signal right now, but rather is a likely bullish setup, especially because many stocks within the index have begun solid rising trends. It does not hurt that the market for marijuana extracts, for pain relief and control of disease symptoms, is booming.
To be sure, many companies in this sector are a bit sketchy, with questionable claims and very small market values. Investing in the ETF is one way to spread out the risk and also take advantage of the index sponsor’s vetting.
Interestingly enough, there is more to the industry than growing the plants and extracting the active agents. The Marijuana Index breaks down the universe of related stocks into many sub-sectors, including agriculture technology, consumption devices, cultivation, finance and hemp products, to name a few. In other words, there are ways to invest without actually coming into direct contact with the plant. Unfortunately, many of these individual charts, if public companies, do not look very enticing.
For example, a private Denver company called Mary’s Medicinals claims to have sold more than a million cannabis infused patches to treat pain.
GW Pharmaceuticals is a $3 billion market cap drugmaker developing a cannabis-based treatment for epilepsy.
Helix TCS provides software solutions for security, compliance and data services for the cannabis industry. Unfortunately, as an investment it carries the extra risk of being a low-priced and low-volume stock.
An alternative is to look for more established companies that get a portion of their revenue from legal marijuana. One of the larger stocks in the group operating on the periphery of the industry is Scotts Miracle-Gro /zigman2/quotes/200553749/composite SMG -0.15% .
Scotts provides fertilizers, lighting and hydroponic supplies to the cannabis market. Most of its revenue still comes from traditional lawn and garden products, so its exposure to marijuana is of less risk for shareholders. However, its chart looks good in the long term and any progress in the legalization of marijuana can only add to its bottom line. (Please see chart 2.)
A company working on a cannabis-based treatment for epilepsy is Zynerba Pharmaceuticals /zigman2/quotes/204500323/composite ZYNE -1.69% . It has only a $332 million market cap, but it trades a decent number of shares, and dollar volume, per day to alleviate some of that small-size risk.
What I like is its one-year rising trend. It is currently a bit extended but would look very nice on a pullback to its trendline. (Please see chart 3.) Considering it is trading just above 25 and the trendline is just above 20, that is a big 20% dip. Of course, buying at the trendline presents a rather low-risk entry with strong upside just to return to where it is now. Risk is limited to a break of the trendline and perhaps a 5% loss.
I think the long-term trend in the sector is strong but with lots of short-term risk. Many companies here are very small and only offering promises at this point. However, more established companies that have a portion of profits from weed would be a good way to start. And as smaller companies dedicated to the sale and use of cannabis create more solid individual stories over time, they can fill out a portfolio.
Michael Kahn, a chartered market technician (CMT), is a columnist for MarketWatch as well as Barrons.com, where he writes the “Getting Technical” column. He is the author of three books on charting and comments on technical analysis on his Twitter feed.