Why Marijuana Stocks Are Risky

May 14, 2019

ETF.com: This is interesting, because you're talking about marijuana as if it were just another agricultural commodity, with commodity supply/demand fundamentals.

Philips: Yes. You hit the nail on the head. [In our view], people are going to end up having paid 100 times revenue for an agriculture commodity stock that's really worth two to four times that. Right now people are paying up 20-30 times what they should be. That’s massively overvalued, in our opinion.

ETF.com: What would you need to see change about the market for you to change your avoid-for-now position on cannabis?

Philips: First, we'd need to see the federal policy stance shifting. We think we’re actually pretty far away from a move to start the process of legalizing. The process is going to take two to three years once they start it, and we haven't seen any policy impetus to get it started.

There’s state momentum, and there are instances where states are leading enough of a policy push that we think it's creating inertia to drive federal change. But we still want to see more acceptance and movement on the federal front.

Second, we'd need to see the valuations of these companies rationalized. We just need a better entry point in these stocks. And that entry point is 80% [or more] below where we are today. So we'd need a really massive revaluation of the entire sector before we start seriously considering investing.

ETF.com: To what extent would the potential entrance of big tobacco or big alcohol companies into the cannabis sector change your calculus?

Phillips: Well, for the cannabis [companies] we're talking about, that's a nightmare scenario for them. Tobacco companies are very good at growing and distributing a smokable substance, which is largely what cannabis is, for now. They have the tools, the methodology and the supply chain to concentrate as well, and do all the other stuff.

So we've been buying tobacco stocks, primarily on overblown fears about regulation, but also as a backdoor way into cannabis, when we didn't think valuations were appropriate on the pure plays.

Also, I'd say the smart money is exiting cannabis right now. The private investors, who are there with venture capital in the early-stage stuff, they're exiting, too. They're not sticking around to see what happens in a down cycle, or over the next 10 years as [marijuana] becomes really commoditized and widely available. That's signaling something to me too.

Contact Lara Crigger at [email protected]

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