Home Cannabis An Investor's Guide to Cannabis ETFs

An Investor’s Guide to Cannabis ETFs

Investors have good reason to be curious about cannabis ETFs. The cannabis industry has been attracting a lot of attention for several years now, thanks to the slow uptake of medical marijuana. In 2018, this popularity reached a peak with the legalization of recreational cannabis in Canada. Also, countries continue to deliberate on cannabis legalization around the world. As a result, cannabis has become one of the most exciting industries for investors.

Grandview Research expects the global legal cannabis market to expand at a 23.9% CAGR (compound annual growth rate) by 2025, reaching about $66.3 billion. Increased medical cannabis use, treating diseases from cancer to arthritis, should help drive the market.

If you’re looking to get involved in the cannabis sector as an investor, ETFs can be a great choice. Below, we explain the advantage of ETFs in the cannabis space. Then we round up some of the biggest ETFs you should know and compare their performance.

Cannabis ETFs and a highly volatile industry

From an investor’s point of view, cannabis stocks have mostly remained volatile. Most of the cannabis stocks—including Organigram (OGI) and Canopy Growth (WEED)—recorded new highs in March 2019. However, the fact that many cannabis companies are failing to earn profits, along with pressing geopolitical issues, has raised doubts among investors. We’ve seen a drastic plunge in cannabis stock prices, which has affected returns as a whole.

 

Despite the decline, stocks like Aurora Cannabis (ACB) are still trading at a premium. Also, aggressive trends in the industry because of rampant acquisitions and new product launches are some catalysts to look out for. The volatility in the cannabis industry is where  ETFs—or exchange-traded funds—come in. Cannabis ETFs play a vital role in risk mitigation for investors.

How to diversity risk with cannabis ETFs

The cannabis industry includes several business segments, and each one comes with its own degree of risk. On the one hand, Aurora Cannabis (ACB), Canopy Growth (WEED), and Organigram Holdings (OGI) are prominent growing companies. On the other hand, companies like Auxly Cannabis (XLY) don’t grow cannabis themselves. Auxly provides funding to help cannabis companies expand their respective businesses. And then there’s a bevy of other companies that use cannabis to develop ancillary products like vapes, edibles, and concentrates.

When you bear these differences in mind, you can see why it’s ideal for investors to identify and invest in each of these segments in order to diversify their risk. But that kind of diversification can be costly. Plus, novice investors might worry about getting trapped by placing all their eggs in one basket. Too much concentration in one stock can be dangerous, exposing your portfolio to a high level of volatility and risk. To mitigate this danger, you can turn to cannabis ETFs.

Are cannabis ETFs a good idea for investors?

ETFs, in general, let investors hold shares in a substantial pool of investments with similar characteristics. Each holding in an ETF means a fraction of ownership in a company’s shares for ETF investors. And any changes in the total worth of these combined shares lead to changes in the ETF price.

Investing in a sector-specific ETF is like investing in several individual stocks within a sector. But with ETFs, investors don’t need to worry as much about having enormous capital to construct a diversified portfolio. Also, you don’t need to be tied down to a small group of stocks or worry about losses because of an adverse event on your limited stock portfolio. ETFs are, for these reasons, especially well suited for long-term investors.

Most ETFs mirror the movement of a complete set of an asset group. And then there are others that target specific sectors. The cannabis ETFs are, of course, that second type of fund. They focus on cannabis stocks and aim to capture their performance. Also, the different cannabis ETFs have their own distinct goals. This variety gives investors a wide array of ETFs to choose from. So let’s take a closer look at your options when it comes to cannabis ETFs.

The best cannabis ETFs for US investors

With the cannabis industry gaining traction, the once-scantly-populated domain of cannabis ETFs is on the rise!

Of the many ETFs currently trading in the cannabis sector, the ETFMG Alternative Harvest ETF (MJ) is the best-received among investors.

The AdvisorShares Pure Cannabis ETF (YOLO), Cannabis ETF (THCX), and Cambria Cannabis ETF (TOKE) are some of the other top cannabis ETFs. Below, we compare their approach and their performance.

What drives cannabis ETFs’ performance?

Cannabis ETFs faced a difficult year back in 2018, owing to cannabis stocks’ poor performance. Moreover, sluggishness in the approval of pharmaceutical and recreational marijuana products upset investors.

By September 2018, with the approval date for recreational cannabis in Canada fast approaching, the sector saw a big spike in returns. However, this peak only lasted for a brief time. Then investors panicked after seeing a slowdown in sales after legalization. Many cannabis stocks surrendered their gains, which took a toll on the cannabis ETFs.

Then, in 2019, cannabis ETFs started on a high note. The significant surge in cannabis share prices back in March 2019 boosted performance. Hopes rested on major cannabis producers, causing appreciation in share prices.

However, toward October 2019, shares dropped significantly, leading to a correction in the huge valuation of cannabis stocks. This fall, in turn, has taken a toll on the cannabis ETFs. Investors became cautious after the Q2 2019 earnings were disappointing.

Looking ahead, you’ll find the rising demand for cannabis making the industry very attractive. Investors are especially noting possibilities in the global pharmaceutical sector.

The ETFMG Alternative Harvest ETF (MJ)

The ETFMG Alternative Harvest ETF (MJ) is one of the largest cannabis ETFs—and the oldest. It was established in December 2015. In the beginning, the fund invested in companies from the global pharmaceutical, tobacco, and fertilizer sectors.

And in late 2017, MJ became the first fund with its strategy directed toward investing in cannabis companies. This new start let the fund invest in various cannabis stocks across the different segments we mentioned earlier in this article.

The Alternative Harvest ETF has holdings in 40 companies around the world. Nearly 60% of its investments are spread across its funding in the top ten holdings, mostly focused on the cannabis industry. The top stocks that MJ held were Aurora Cannabis (ACB), GW Pharmaceuticals, and Cronos Group (CRON)—with a 7.56% allocation toward each holding as of September 30, 2019.

From a performance perspective, MJ has earned a cumulative monthly return of 5.77% (in NAV terms) as of September 30, 2019, since inception.

The AdvisorShares Pure Cannabis ETF (YOLO)

The AdvisorShares Pure Cannabis ETF (YOLO) is the pioneer cannabis ETF to actively manage its investments. This fund allocates most of its holdings to the cannabis sector.

YOLO can alter its portfolio rapidly compared to a passive index-based strategy. This feature acts is a huge benefit for investors since the cannabis industry is very dynamic and unpredictable.

More than 45% of YOLO’s investment is spread across its top ten holdings, of which nearly 40% tie in with cannabis. The AdvisorShares Pure Cannabis ETF’s top holding was 9.68% in the Blackrock Treasury Trust Instl62 as of August 31, 2019.

YOLO has made an annualized monthly trailing return of -29.42% (in NAV terms) since its inception, as of August 31, 2019. This cannabis fund has underperformed the S&P 500 index, which has earned a 1.66% return for the same period.

The Cannabis ETF (THCX)

The Cannabis ETF (THCX) is a pure-play marijuana ETF, allowing investors to put their money into the fast-growing cannabis industry directly. The ETF’s funds amount to more than $18 million as of September 30, 2019.

Though THCX passively manages its investments, it rebalances its portfolio every month. This approach is better than normal funds’ tactic.

More than 61% of The Cannabis ETF’s portfolio lies in its top ten holdings, all of which are associated with cannabis. THCX allocated the majority of its portfolio to Canopy Growth, at 8.25% as of September 30, 2019.

One other attractive feature about THCX is its low fee versus peer ETFs in the cannabis industry. The fund recorded monthly returns of -32.29% (in NAV terms) as of September 30, 2019, since its inception. THCX also underperformed the S&P 500 Index, however.

The Cambria Cannabis ETF (TOKE)

The Cambria Cannabis ETF (TOKE) aims for capital gains from stock investments with a majority attribution to the cannabis industry. This is yet another fund to actively manage its investments.

The TOKE ETF’s funds amount to more than $7.7 million. This ETF aims to invest in 20 to 50 of the top cannabis companies.

The fund’s portfolio is spread across a range of micro-, small-, and mid-capitalization stocks. More than 61% of TOKE’s portfolio is its top ten holdings, all of which are associated with the cannabis space. TOKE’s major shareholding is Aurora Cannabis (ACB), at 6.9% as of September 30, 2019.

TOKE has the lowest net expense ratio among these cannabis ETFs, at 0.42% as of September 30, 2019. Moreover, since the Cambria Cannabis ETF’s inception, it has earned cumulative monthly returns of -24.86% (in NAV terms) as of September 30, 2019. However, the fund heavily underperformed the S&P 500 Index and its -1.03% returns during the period.

What are the disadvantages of cannabis ETFs?

You can see that the cannabis market is both huge and appealing for investors. But the cannabis industry has its flip side, too. The big concern for the cannabis sector is that it’s still new and developing.

You can see intense competition to capture market share and claim leadership in this emerging space. It will take some time for the cannabis companies to settle down and tap the opportunity in this sector. Until then, the market is bound to be highly volatile for cannabis investors.

Also, investors just can’t overlook the apprehension about cannabis legalization and allegations of health risks. Recently, cannabis vaping products have been found to cause lung disease, leading health inspectors to issue a note of caution about vaping marijuana. These negative factors affect individual stocks as well as cannabis ETFs.

The importance of staying informed

It’s critical to consider the risks as well as the opportunities when you invest in the cannabis sector. And staying informed is a great start. Check out our detailed guides for cannabis investors and our daily updates about the word on Wall Street.

Must Read

cannabis

Cannabis: Legal Market versus Black Market

The cannabis industry has been growing exponentially for the past few years. As the cannabis market keeps growing, the black market is growing too.