Future Returns: Investing In The Cannabis Industry

Several years ago Morgan Stanley did a poll of over 1,000 high-net-worth investors to see if they’d invest in legal cannabis. A full 65% said they were not likely to invest if cannabis were legalised in the next 12 months.

But Matt Bottomley, equity research analyst at Canaccord Genuity in Toronto, doesn’t hear this same level of objection to the industry today, and for good reason. “At the end of the day, I think the U.S. cannabis sector at maturity is probably US$80 billion to US$100 billion in sales,” he says.

The stigma once associated with cannabis has dropped off dramatically, and within the past month states including New York and Virginia, as well as Mexico, have either legalised it or announced plans to do so.

“You’re going to see it slowly, over the next years and decades transition from a more traditional consumer-packaged goods market,” Bottomley says. Presently, leading U.S. companies “are kind of doing everything in every market,” he says—from growing to producing, up to creating edibles and even operating retail in some markets. As legalisation expands across the world, big pharma may look to get in on it, changing valuations.

Big-name companies trading in the U.S. such as Canopy and Tilray see their stock prices appreciate when pro-legalisation stories hit the news. But because cannabis is still a Schedule I drug, meaning tightly regulated by the government, Bottomley says, “the fundamentals are not necessarily going to flow down to those types of companies.”

Meanwhile, leading American companies like Curaleaf or Trulieve trade on Canadian junior exchanges, less easily accessed by the overall U.S. retail investor market. He thinks there’s a tremendous amount of capital yet to come into this space. Many companies, he adds, are underserved by institutional investors as well.

“Over the long term if you pick the right horses in the sector, there’s still quite a lot of growth to be had.”

Here are three things Bottomley says to keep in mind when investing in the cannabis sector.

Take Stock of Your Risk Profile

Investors entering the cannabis market have to consider their risk thresholds. “All of our buys on cannabis stocks to date are all speculative buys, and we do have holds and sells as well,” Bottomley says.

The sector can be home to wild price swings where for weeks at a time stocks go in one direction, before pivoting and going the other way. If they consider a 2%-to-3% move in a day outside their risk threshold, it might not be for them. Especially because the “wild directions” stocks move in aren’t necessarily tied to company performance.

Bottomley says it also requires a lot of patience. “You really have to be comfortable about where you are on that growth curve and how far ahead of markets opening up—you want to invest your incremental dollar to get ahead of what could eventually be a very large push upward.”

Valuation is Relative

Cannabis is a sector where policy announcements about the future of legalisation can cause stocks to move in the same direction, but investors can’t let that alone sway them. Even if every cannabis stock is moving up or down, and the shift seems uniform, Bottomley advises exercising caution.

Not every cannabis company has exposure to the same markets or regions. When looking at companies in the cannabis space, he says it’s necessary to see how they’re situated in markets relative to their peer group.

He offers the example of a Canadian company trading at 30 or 40 times its forward profitability metrics, or Ebitda (short for earnings before interest, taxes, depreciation, and amortization), but that lacks access to the U.S. market or other growth drivers.

“I prefer buying a company that’s trading at a lower multiple than that, but actually has that exposure,” he says. “That’s the first thing that I look at when I’m putting a rating to any of these companies that I cover.”

Understand the Management Team

For Bottomley, management teams and their philosophies are particularly important in the cannabis industry. “We’ve seen a lot of good case studies for huge success stories and a lot of case studies where things haven’t gone so well,” he says.

Prior to Covid-19, Bottomley went on a lot of site visits, meeting management teams. What benefits investors long term, he says, are companies that aren’t too aggressive with mergers and acquisitions, don’t overpay for assets and focus on core markets where they have competencies and market share. But this also means having good infrastructure, like call centres to support patients for medical cannabis companies, or adequate supply for and quantity of retail locations to gain market share.

“Management teams can be fairly aggressive with respect to their messaging,” Bottomley says, “and that’s fine if you can back it up, but I think that’s something investors have to be particularly careful of when they’re choosing which operators they want to back.”

Charities, distant relatives and even pets are benefiting from surprise inheritances. They can thank people without children.

Not having children is becoming more common, both among millennials and older people. A July Pew Research Center analysis found that 20% of U.S. adults age 50 and older hadn’t had children.

And many of these people don’t have wills. An AARP survey found half of childless people age 50-plus who live alone have a will, compared with 57% of others that age. Those without wills have less control over what happens to their money, which often ends up in the hands of people who don’t expect it.

This phenomenon of a surprise inheritance is common enough that it has a name: the laughing heir .

“All they do is get the money and go, ‘Ah ha ha, look at that,’ ” said Michael Ettinger , an estate lawyer in New York.

Kelley Gilpin McKeig, a 64-year-old healthcare-industry consultant in Ridgefield, Wash., received a phone call several years ago saying her cousin Nick Caldwell left behind money in a savings account. They hadn’t been in touch for 20 years.

“I thought it was a scam,” she said. “Nobody else in our family had heard that he had passed.”

She hunted down his death certificate and a news article and learned he had died about a year and a half before in a workplace accident.

Caldwell, who was in his 50s, had died without a will. His estate was split among cousins and an uncle. It took about two years for the money to be distributed because of the paperwork and court approval involved. Gilpin McKeig’s share was $2,300.

Afterward, she updated her will to make sure what she has doesn’t go to “just anybody down the line, or cousins I don’t care about.”

Who inherits

There are trillions of dollars at stake as baby boomers age.

Most people leave their money to spouses and children when they die. A 2021 analysis of Federal Reserve survey data found that 82% of heirs’ inheritances came from parents.

People with no children say they want to leave a greater share of their estates to charity, friends and extended family , according to research by two Yale law professors that surveyed 9,000 U.S. adults.

Rebecca Fornwalt, a 33-year-old writer, created a trust after landing a book deal. While her heirs are her parents, her backup heirs include her sister and about a half-dozen close friends. She set aside $15,000 for the care of each of her two dogs.

Susan Lassiter-Lyons , a financial coach in Florence, Ariz., said one childless client is leaving equal interests in her home to her two nephews. Another is leaving her home to a man she has been friends with for a long time.

“She broke his heart years ago and she feels guilted into leaving him property,” Lassiter-Lyons said.

A client who is a former escort estranged from her family is leaving her estate to two friends and to charity.

Lassiter-Lyons, who doesn’t have children, set up a trust for her two dogs should she and her wife die. The pet guardian, her wife’s sister, would live in their house while taking care of the dogs. When the dogs die, she inherits the house.

In the Yale study, people without descendants—children or grandchildren—intended to give 10% of their estates to charity, on average, more than triple the intended amount of those with descendants.

The Jewish Community Foundation of Los Angeles, which manages $1.3 billion of assets, a few years ago added an “heirless donors” section to its website that profiles donors and talks about building a legacy.

“Fifteen years ago, we never talked about child-free donors at all,” said Lew Groner , the foundation’s vice president for marketing.

In the absence of a will, heirs are determined by state law . Assets can wind up in the state’s hands. In New York, for example, $240 million in unclaimed funds over the past 10 years has arrived from estates of the deceased, not including real estate, according to the state comptroller’s office. In California, it is $54.3 million.

Hard questions

Financial advisers say a far bigger concern than who gets what is making sure there is enough money and support for a comfortable old age, because clients without children can’t call on them for help.

“I hope there is something left to leave,” said Stephanie Maxfield, a 43-year-old therapist in southern Colorado. “But if there isn’t, I think that’s OK, too.”

She said she would like to leave something to her partner’s nieces and nephews, as well as animal shelters and domestic-violence shelters. Her best friend is a beneficiary.

Choosing an estate executor and who would handle money and health decisions on your behalf can be difficult when you don’t have children, financial advisers say. Using a promised inheritance as a reward for taking care of you when you are older isn’t a good solution, said Jay Zigmont , an investment adviser focused on childless people.

“Unfortunately, it is relatively common to see family members who are in the will decide to opt for cheaper medical care (or similar decisions) in order to protect what they will be inheriting,” he said in an email.

Kirsten Tompkins, who is from Birmingham, U.K., and works in consulting, along with her husband divided their estate among their dozen nieces and nephews.

Choosing heirs was the easy part. What is hard is figuring out whom to ask for help as she and her husband get older, she said.

“A lot of us are at an age where we are playing that role for our parents,” the 50-year-old said, referring to tasks such as providing tech support and taking parents to medical appointments. “Who is going to do that for us?”