Buying Marijuana Stock: What You Need to Know

Estimated read time: 7 minutes

Thinking about investing in marijuana stock? You aren't alone.

With more states legalizing cannabis for medical and recreational use, potential investors can't help but daydream about the possibilities. The industry's transition from the black market into the mainstream presents a unique investment opportunity unlike any other available today.

The Unique Risks of Marijuana Stock

Before we get too deep into the ins and outs of cannabis-related investing, it's important to pause and ask yourself, "Is marijuana stock right for me?" This financial world of untapped potential is also one of untold pitfalls. The simple truth is that no one knows what the future of the cannabis industry looks like on either a micro or a macro scale. There are just too many unknowns and no comparable scenario to use as a guide. Still, it holds appeal for some of those who prefer exotic luxuries and adventures into the unknown.

There's no guarantee the industry will have a future at all – at least not a legal one (thousands of years of marijuana use isn't likely to completely end in the near future). Even within states that have legalized the recreational use of marijuana, county and city governments have tried to roll back legal protections. So far, courts have protected the new industry by quashing those legal challenges, but the attempts underscore the regulatory uncertainty.

Assuming legalization isn't a fad, there's still no telling what the cannabis industry will look like once it ramps up to a national scale. Ten states and Washington, D.C. have legalized recreational marijuana businesses, but no two states have identical regulations. Until that regulatory patchwork becomes more collaborative, an element of the unknown will haunt otherwise steady economic growth.

Before you even start browsing cannabis stocks, take a good, hard look at your portfolio and investment style. If your risk tolerance isn't extremely aggressive, cannabis probably is NOT where you want to invest your money.

The High Points

Colorado and Washington, the pioneers of recreational cannabis, first allowed pot shops to open their doors in 2014. Since then, sales have skyrocketed. According to state government data, it only took two years for Colorado's annual sales to top $1 billion. Any way you slice it, when customers spend billions of dollars on a product, there's money to be made.

It has momentum

As mentioned earlier, one of the biggest threats to the cannabis industry is that the great experiment of legalization will come to an abrupt end. Luckily (for investors), polling data shows public opinion going the other way – and fast. About two-thirds of Americans support the outright legalization of cannabis. Thirty years ago, not even a quarter of Americans supported it. That data isn't skewed by liberal majorities in big cities, either. Marijuana-friendly momentum is building on both sides of the aisle. For example, the Republican Party of Texas recently endorsed decriminalization, federal reclassification, medical use, and industrial hemp (though it stopped short of endorsing a recreational market in Texas).

Get in on the ground floor

Lots of companies in the cannabis industry are new, and that means they're cheap. If you manage to find a company that rides out the first few years of legalization, you may see some seriously lucrative returns. The trick here (and it's a significant one) is picking the winners.

The Downsides

Many of the biggest cannabis companies currently offering stock are based in Canada. For U.S.-based investors, that means it may be more difficult to access stocks. There's a chance your broker doesn't offer shares for the company you want a stake in. The stocks you manage to find will most likely be new, and analysts may not have spent as much time assessing the company as they have with more popular companies.

Lots of losers

If you live in a state that legalized recreational marijuana, it probably feels like a pot shop has opened up on every corner. That's essentially what's happening throughout the industry. At all levels the market is flooded with people trying to turn a profit on this new and exciting industry. The simple fact is that not all of them can succeed; you don't need a dispensary on every corner. Picking a winner among start-ups is always a challenge, and the uncertainty surrounding the cannabis industry doesn't make it any easier. If you haven't traded in penny stocks before, marijuana will be a difficult way to start.

Beware of scams

Some companies that try their best will fail. Others know they'll fail, and the scammers behind the companies just want to fleece some new investors on the way down. The Securities and Exchange Commission has already issued a warning about marijuana fraud. The Department of Justice has already charged at least one cannabis-related company for allegedly defrauding investors.

Unique option

In some ways, the fact that marijuana stocks are unlike any others is a benefit. Unique exposures carry the possibility of unique rewards, but that uniqueness will translate to extra work for you. The ups and downs of a cannabis-related company won't necessarily correlate to the stock market as a whole. That's because, since it occupies a legal grey area, it isn't as intertwined with the finances of major market movers on the Dow, Nasdaq, etc. If your marijuana investment starts to nosedive you might have to dig a little to figure out why.

How to Buy Marijuana Stock

As mentioned above, not every broker will offer every cannabis-related stock. If you plan to buy, find a broker with the stocks you're interested in. Also keep your trading style in mind. If you're hoping to turn a quick profit by playing with penny stocks, minimizing fees should be your top concern. If you're holding on for the long-term, the fees per trade won't have as big of an impact on your return.

Don't invest a penny beyond what you can afford to lose

The smartest way to invest in cannabis stock is to assume you'll lose whatever you invest. If you have one takeaway from this piece it should be that it's extremely difficult to project how these new companies in this new industry will fare in the next few years. With that level of uncertainty, placing any amount of financial dependence on your cannabis investments is a recipe for disaster. Instead, focus on having fun with the research and investment, and consider any big returns a happy accident.

Look into what the company does

If you aren't familiar with cannabis it might surprise you to learn that it's a diverse plant. Making the final product meant for consumption is one side of the industry, but other companies just focus on producing oils, tinctures, or weed-infused food.

Before investing, learn the difference between THC and CBD. THC is the plant compound that's most often associated with getting "high." CBD is another compound that some say carries medical potential. Last year Congress effectively legalized CBD nationwide, so some companies are trying to capitalize on that right now. As you're researching companies to potentially invest in, figure out what kind of product the company specializes in and whether it plans to market to medical or recreational customers.

Keep volatility in mind

Cannabis investing isn't for the faint of heart. Anyone who tells you a particular cannabis stock is a sure bet is offering bad advice. Your investments may skyrocket in value one week then tank the next. That means investors need to show restraint when it looks like their companies have finally hit it big. Don't buy the hype. Obviously that advice applies to any investing, but it'll be easier said than done when an election day opens up a brand new market. It'll feel like a true turning point, but you should hold or even sell.

A Few of Today's Major Players

To get you started down the road to exactly what stocks you might want to check out, take a look at these top companies in the industry right now:

Aurora Cannabis Inc (ACB)

This company grows cannabis – and a lot of it. Estimated to grow more than 1.5 million pounds of weed annually, analysts think it will lead Canadian growers in terms of output.

Canopy Growth Corp (CGC)

This company tries to do it all, from dried buds destined for smoking to industrial hemp bound for a textile factory. It also boasts the industry's first partnership with a major alcohol company, and it was the first cannabis-producing company to list on the New York Stock Exchange.

Cronos Group Inc (CRON)

The Cronos Group hopes to tap into the global expansion of medical marijuana. The company owns several medical marijuana producers throughout Canada, specializing in both flower and oil.

Tilray Inc (TLRY)

This company also hopes to become a global leader in medical marijuana. It produces flower and oils in both THC and CBD blends. The company also has clinical trials underway as far away as Australia.

ETFMG Alternative Harvest ETF (MJ).

For those who don't want to try to pick winners and losers, you can bet on the whole industry with the Alternative Harvest ETF, or "MJ." It's not the only cannabis industry ETF, but it was the first one traded in the U.S., which gave it a major leg up in this rapidly developing environment.

Those are the basics for cannabis investing, but it's just the beginning. No one knows what lies in store for the industry going forward. Each development carries exciting potential, but you don't know when a disrupter is going to come in and upend the system. One last word of caution: make your investments before enjoying the product – investors need a clear head.