The cannabis sector has been struggling through a pretty nasty bear market. Long-term investors are seeing some of their massive profits collected in the last two years eroded. New investors are off to a bit of a slow start.

Today, I am going to explain what is happening and the path forward.

The North American cannabis index is down 26% from the 52-week high it hit on October 15.

Take a look below.

The cannabis sector has a history of extreme volatility. But this blast of weakness came as a pretty big surprise.

#1 because Canada became the first developed nation in the world to legalize recreational cannabis on October 17.

#2 because Constellation Brands (STZ), one of the largest alcohol companies in the world, invested $4 billion into Canopy Growth Corp (CGC) on August 15, sending the entire cannabis sector sky rocketing into a new all-time high.

This weakness has left a lot of cannabis investors scratching their heads asking – ‘what’s going on here? Is the big rally in the cannabis sector over?’

In life the simplest explanation is often the most accurate. And I think that is true here.

I think this sell off was driven by two factors.

#1 weakness in the broad stock market: the broad stock market has taken a serious beating in October and November. When the broader stock market weakens investors don’t pull their capital out of conservative stocks like utilities and dividend payers. That capital gets pulled from growth sectors – including cannabis.

#2 profit taking after huge gain: the cannabis sector is up huge in the last two years. For example, the North American cannabis index was is up 550% in the last 2.5 years. Many individual stocks are up even more. For investors or trades with a shorter term outlook on the sector, I think those huge gains triggered a round of profit taking at the new all-time high.

What Should We Expect Moving Forward?

In the short run – the cannabis sector looks over sold – I am expecting a rebound or relief rally.

Sector leader Canopy is close to the most oversold its been in the last two years. Every time Canopy has been this over sold, shares have launched a big rally. Take a look below.

December is also typically an excellent month for US stocks. If we get a “Santa Claus Rally” I expect it to give the cannabis sector a big boost.

In the long run – even though this pullback has been painful, it barely looks like a blip on the radar in the long run higher. The trend is definitely still higher.

My Big Prediction for 2019

Beyond these trends, I see a huge potential catalyst for the cannabis sector in 2019.

I strongly think medical cannabis will be legalized on the federal level in 2019.

Here are some more details from the Washington Times.

President Trump plans to pursue federally legalizing medical marijuana following next month’s midterm races, Rep. Dana Rohrabacher, California Republican, said Thursday.

The Trump administration has made a “solid commitment” to reform marijuana laws, and the president has spoken in support of federally legalizing the plant for medical purposes, Mr. Rohrabachertold Fox Business Channel.

“I have been talking to people inside the White House who know and inside the president’s entourage,” Mr. Rohrabacher said, Fox Business reported. “I have talked to them at length. I have been reassured that the president intends on keeping his campaign promise.

“I would expect after the election we will sit down and we’ll start hammering out something that is specific and real,” he added. “It could be as early as spring of 2019, but definitely in the next legislative session.”

Mr. Trump did not campaign on legalizing marijuana, but he said while running that he agreed that states should be able to pass laws permitting the plant in spite of federal prohibition.

“The marijuana thing is such a big thing. I think medical should happen — right? Don’t we agree? I think so,” he said in 2015. “I think that should be a state issue, state by state.”

I also see a high probability of  the US officially deferring to the states on recreational.

Either of these two events would be a huge catalyst for cannabis stocks.

What is the Path Forward?

#1Stay Patient and Focus on the Big Picture: This is not the time to lose faith in the cannabis sector. I don’t think this pullback means the party is over. In fact, I think it’s just getting started. I see plenty of opportunity ahead.

I encourage all my clients to take the long-term view – because as we have already seen that is where the real profits will be happening.

#2 Profit Taking in Canada, Rotate Cash into US Cannabis Stocks: In terms of strategy, with the US stetting the stage to potentially legalize medical – I think the time has come for a cannabis portfolio rotation.

My plan going into 2019 is to start taking some profit on the huge winners we have in Canadian cannabis stocks such as Canopy and rotate that cash into US cannabis stocks.

There has been a flurry of US cannabis stock IPOs hitting the exchanges in the last month and I think these companies are in position to dominate the US cannabis market. Here’s one example.

Record $4 Billion Cannabis IPO Set for Thursday

I will be contacting all of my wealth management clients in the next few weeks to schedule annual portfolio reviews.

Part of this review process will include these cannabis sector rotations.

• mike@vodickagroup.com
• mikevodicka@gmail.com

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