Many responsible investors are thinking long and hard about whether they should include cannabis stocks in their portfolios. That's because the emerging industry has seen a spike in interest and attracted capital as legalization inches closer toward reality in Canada.
Investors have clearly shown interest in cannabis. The Canadian marijuana index, which tracks stocks operating in the legal cannabis industry, has risen by 276% since June 2016 to reach a market capitalization of more than $11 billion. Several pot-themed financial products have been launched to meet growing investor demand. This market activity has taken place despite the fact legalization will not take effect until July 2018 at the earliest.
But is this emerging industry suitable for responsible investors who incorporate environmental, social and governance (ESG) issues into their investment decisions? The answer to that question is complex as it involves a dash of ethical deliberation and a lot of in-depth analysis. One question responsible investors may ask is whether a cannabis company is considered a "sin stock" — a label usually attached to companies involved with unethical or morally objectionable business activities. For example, is cannabis on par with companies involved with alcohol, tobacco, gambling or weapons? Or can cannabis contribute to positive societal impacts?
On this front, there are reasonable arguments on both sides. For example, recreational marijuana could be seen as a vice similar to smoking tobacco. The federal government's new Cannabis Act contains several restrictions on cannabis possession because of potential health risks associated with heavy, long-term use, such as respiratory or cardiovascular problems, withdrawal symptoms and impairments in short-term memory.
However, cannabis has also been authorized for therapeutic medical purposes to help patients suffering from symptoms caused by chronic or debilitating illnesses and disorders. Several studies have shown that cannabis-based treatments can lead to positive health outcomes for people suffering from conditions such as cancer, glaucoma and epileptic seizures. Non-psychoactive types of cannabis are also used increasingly as an alternative, renewable, industrial fibre to produce common products such as clothes, paper and even biofuel.
Beyond the ethical considerations, financial advisors and responsible investors should also evaluate the ESG performance of cannabis companies to assess these firms' ability to create and protect long-term shareholder value Some of the questions you and your clients will need to consider when assessing cannabis-based investments include:
- How is the company managing its environmental impacts?
- How does the company handle workplace safety concerns around marijuana use at work, whether in a field, greenhouse, factory or on the road?
- How is the company monitoring its supply chain to ensure that human rights and local laws are respected and that its products don't fall into the hands of young people or criminals?
- How is the company addressing legality in some jurisdictions and illegality in others?
Fundamentally, advisors will need to ensure that investing in this emerging industry fits their responsible investor clients' risk profile. Cannabis stocks have risen very rapidly and faced significant volatility over the past year and a half. Although this emerging industry could create up to $22.8 billion in annual economic activity, according to a recent report from Deloitte, many uncertainties remain on the regulatory front that could have significant impact on the future of companies operating in the cannabis market. Any potential reward is not without the corresponding level of risk.
Before your clients jump on the cannabis bandwagon, it's crucial for you to have an in-depth discussion with them to ensure that the nascent cannabis industry is a right fit for their portfolios. Although investors will need to weigh several considerations to determine whether cannabis is aligned with their values, you will also need to help them determine whether cannabis companies are managing their exposure to a wide range of ESG risks.
Doing this will be vital for assessing a marijuana company's viability over the long term. The last thing anyone wants is to light up their portfolio with cannabis, hoping to experience a financial high, only to get burned in the end.