Avoiding the Biggest Mistake Cannabis Investors Make Repeatedly

Avoiding the Biggest Mistake Cannabis Investors Make Repeatedly

The cannabis industry has a lot of potential for improvement. As new markets around the world open up and legalize cannabis for medical or recreational purposes, this can provide more growth opportunities for a company with global aspirations. The challenge, however, is that this can require a lot of patience from investors. Cannabis remains illegal in most parts of the world and countries have been slow to make changes.

But some investors remain optimistic about the sector’s long-term prospects. And the catalyst doesn’t have to be huge to move the stock. Last month it became known that the German government was moving forward with the legalization of marijuana, which came into effect on April 1. This, combined with the hope that the United States might also follow suit and make serious changes, are the main reasons why the actions of Canadian marijuana producers Tilray Brands (NASDAQ:TLRY) And Cover growth (NASDAQ:CGC) took off. Tilray’s stock rose more than 40% in March, while Canopy Growth’s stock soared more than 160%.

Are cannabis investors falling back into old habits?

There is considerable volatility in the the cannabis industry, and this can make these types of investments incredibly risky. Much of the enthusiasm is based on the hope of reforms.

Let’s take November 2020 as an example. During this month, US President Joe Biden was elected and there was a good chance that Democrats would control the House and Senate, which could make it easier for them to pass marijuana reform. That month, shares of Canopy Growth and Tilray Brands jumped more than 50%.

A few months later, in January 2021, David Klein, CEO of Canopy Growth, declared himself “fairly confident in our ability to operate in the United States within a year.”

If you had invested in the company at that time, optimistic about the prospects of legalization, you would have suffered incredibly large losses. An investment of $10,000 in early 2021 would currently be worth around $350.

Betting on Marijuana Reform May Lead Investors Down a Dangerous Path

The biggest mistake I’ve seen cannabis investors make over the years is that they were too eager to believe that marijuana reform was coming soon. This poses some problems. The first is that even if there is reform, it may not mean that the entire market opens up. It may simply be that marijuana is decriminalized, but not that the entire recreational market is open for business. Moreover, it could still take several years. Legalizing marijuana would be incredibly complex and would involve taking into account taxes, advertising rules, minimum ages and many other issues.

This brings us to the second problem: legalization will not be a silver bullet that will solve all of Canopy Growth and Tilray Brands’ problems. These are still companies that consume a lot of cash and are completely unprofitable. And so do many of their rivals.

Although the opening of the US market will create new growth opportunities, it will also result in increased spending and cash burn. These companies and other Canadian marijuana producers will be at a disadvantage, as there are already many multi-state operators in the United States who are just as eager to see marijuana reform take place. By aggressively pursuing opportunities, these companies, which do not have sustainable operations today, could potentially put themselves in a worse situation by stretching their operations too thin.

Tilray Brands and Canopy Growth are far from foolproof growth stocks

If your investment thesis hinges on government reform, that may be a sign that you’re taking on a little too much risk. Government reform can be unpredictable and take a long time. There are no guarantees when it comes to reform, and while it may seem obvious, it’s something cannabis investors should never forget.

A company must also be in good financial health to be able to seize opportunities that arise. None of these companies check these boxes, and until they do, investors might be better off staying away. If you are interested in investing in the cannabis industry due to a potentially strong market in the United States, the simplest option may be to simply invest in multistate operators that already generate substantial revenue and are located in the United States, rather than relying on the hope that marijuana legislation will pass in the future.

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David Jagielski has no position in any of the stocks mentioned. The Motley Fool recommends Tilray Brands. The Motley Fool has a disclosure policy.

This is the biggest mistake I see cannabis investors making over and over again was originally published by The Motley Fool

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