Understanding Medical Cannabis vs. Recreational Cannabis Stocks

Investors and companies alike have been excited about the cannabis market. Once on the fringes of the financial world, cannabis companies are now gaining more traction, with mainstream companies jumping on the marijuana bandwagon.

Uruguay fully legalized pot in 2013, followed by Canada, which did so in 2018. But many other countries have been slow to follow suit, partly because of the stigma associated with marijuana. The drug still remains illegal at the federal level in the United States, but attitudes are shifting at the state-level. Colorado became the first U.S. state to legalize marijuana, and now more than 30 states have adopted cannabis-friendly policies.

But even as the sector racks up significant gains in the stock market, investor assessment of marijuana stocks is still colored by past stereotypes. Some investors are finding it hard to jump in on the action, even with promises of big gains.

The industry is broadly divided into two markets: the market for medical marijuana and the one for recreational marijuana. As their names suggest, both have applications in different industries and cater to different markets. Medical marijuana stocks represent companies involved in research and development for the treatment of certain health conditions, while recreational cannabis companies cater to products that don’t have a medical purpose. Instead, users of their products are seeking the high that comes with smoking, consuming, or drinking cannabis.

Depending on an investor’s risk profile and time horizon, stocks for companies from both markets are attractive because they represent a growth opportunity, similar to the one that existed for tech stocks. 

Medical cannabis or marijuana is a type of therapy prescribed by doctors for a wide variety of health conditions and symptoms. Therefore, a patient must receive a prescription before he or she can get access to cannabis treatment. To date, the drug has been used to treat Alzheimer’s, different forms of cancer, various mental health conditions, multiple sclerosis, nausea, and pain.

Medicines that incorporate marijuana might find significant applications in government healthcare. A 2016 research paper by Ashley Bradford and W. David Bradford from the University of Georgia found that prescription drug sales for painkillers “fell significantly” in states which legalized medical marijuana. “National overall reductions in Medicare program and enrollee spending when states implemented medical marijuana laws were estimated to be $165.2 million per year in 2013,” the authors wrote.

Medical marijuana has been legalized by more than 30 states in some fashion (as of May 2019). But there are limitations because of how the drug is viewed at the federal level. The Food and Drug Administration (FDA) has approved four drugs with chemicals from or similar to the ones found in the cannabis plant, including Epidiolex, a drug used to treat a rare and severe form of epilepsy in children. But as a whole, the agency has yet to approve medical marijuana. That’s because the U.S. Drug Enforcement Administration (DEA) still lists marijuana as a controlled substance.

Despite this, the industry has been moving forward. Research conducted in 2018 stated that Sanofis Aventis (SNA) and Merck (MRK) are among the top cannabis-related patent holders. And companies currently involved in the use of marijuana for medical uses are GW Pharmaceuticals (GWPH), Tilray (TLRY), Corbus Pharmaceuticals (CRBP), Cara Therapeutics (CARA), and Zynerba Pharmaceuticals (ZYNE). 

According to ArcView Market Research and BDS Analytics, spending on legal cannabis is poised to grow 230% worldwide from $9.5 billion in 2017 to $31.3% billion in 2022, 33% of which is expected to go toward the medical marijuana industry. Most of this figure will be spent in the United States.

So how does this all stack up for investors?

The basic framework for evaluating medical marijuana stocks remains similar to that for the pharmaceutical industry, which means investors should focus on the company’s pipeline of drugs and spending on research. Because research in cannabis is relatively new, it is safe to assume that the payback for investors in this industry will be longer as compared to recreational marijuana. For context, consider that GW Pharmaceuticals spent 19 years researching cannabis chemicals before getting its first drug approval earlier this year. 

Getting into the market is as easy as any other industry. Investors may consider purchasing stock in companies researching or those that currently have medical marijuana on the market as mentioned above. Many are listed on stock exchanges like the Toronto Stock Exchange (TSX), while many are traded over-the-counter (OTC).

Another option is to consider an exchange-traded fund (ETF), as limited as they are in the market. These instruments trade just like stocks, but pools together assets such as stocks, bonds, and/or commodities. The Alternative Harvest ETF includes companies such as GW Pharmaceuticals and Tilray and was trading at $33.23 as of May 28, 2019.

Even though medical marijuana was legalized first and already has a semblance of distribution infrastructure in the form of medical dispensaries, recreational marijuana caters to a bigger audience and has a greater recall in public memory. This head start translates into a potentially bigger market for this type of marijuana and is reflected in the exponential growth statistics for companies involved in this sector.

The recreational marijuana industry primarily uses THC (Tetrahydrocannabinol), a psychoactive agent that is responsible for the high which comes from smoking weed, for its products. It has multiple applications across products, from marijuana-infused beer to coffee and cigarettes. Instead of having a medical purpose, this industry markets the high marijuana is known for and that users seek.

According to the report released by ArcView Market Research and BDS Analytics mentioned above, 67% of global cannabis spending is expected to take place in the recreational industry—a big draw for investors. However, federal legalization of recreational marijuana is essential before the market can reach its true potential. 

The variety of products available for recreational marijuana comes with a catch: hefty taxes. For example, Colorado charges a 15% excise tax for sales from cultivators to retailers and another 15% sales tax. This makes the final marijuana product fairly expensive. Companies involved in recreational marijuana products will have to account for significant regulatory charges from governments on their balance sheets. 

Just like medical marijuana, there are stocks and other investments available in the recreational cannabis sector. The most prominent company involved in recreational marijuana play is Canadian player Canopy Growth (CGC). The stock price closed at $44.64 on May 28, 2019, and had a market cap of $14.84 billion. Canopy Growth reported total annual revenue of $77.9 million for 2018, compared to $39.9 million from the previous year.