It's an exciting time for investors who are interested in adding marijuana stocks to their portfolios. For one thing, people are learning more about the drug and how its use can be applied to the medical industry. This is leading to more relaxed attitudes about cannabis.

But there are certain considerations associated with marijuana stocks that investors should keep in mind. After all, it is still a young industry, one that is a lot different than other, more traditional sectors like retail and the consumer discretionary industry. This article looks at the state of the marijuana industry, how people can invest in cannabis, and the risks associated with these investments.

Key Takeaways

  • Marijuana is legal in 35 states and in the District of Columbia either medically, for recreational purposes, or both.
  • Attitudes are shifting, with more Americans willing to accept legal pot.
  • The cannabis industry is still in its infancy and is full of speculation.
  • Many marijuana stocks are considered penny stocks that trade below $5, have small market capitalizations, and have low trading volumes.
  • Investors should consider the risks associated with these stocks including a lack of transparency, fraud, and low liquidity.

Marijuana: Growing Acceptance

Attitudes in the way people use and view marijuana are shifting. According to a study conducted by Pew Research, the majority of Americans—two-thirds—say marijuana should be legalized for medical or recreational use. That same study showed that opposition to legal pot dropped to 32%. So it should come as no surprise that individual states are beginning to put legal marijuana on the ballot.

Marijuana is now legal in some form or another in 35 states and the District of Columbia—either medically, recreationally, or both. Despite this, cannabis remains illegal at the federal level, as it is classified by the United States government as a controlled substance. In fact, marijuana is listed as a Schedule I drug, according to the Drug Enforcement Administration (DEA), as it has "no currently accepted medical use and a high potential for abuse." Despite these moves, the U.S. is still a far cry from other countries like Canada, which legalized cannabis across the country in 2018, and Uruguay, which did so in 2013.

But this doesn't mean investors aren't excited about the potential of pot. In fact, a lot of investors are scrambling to get a piece of an industry that has the potential to grow, with sales expected to reach as high as $47 billion by 2025, according to Arcview Group.

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Marijuana Penny Stocks: Where Risk Meets Sin

The Marijuana Industry

The marijuana industry is still in its infancy, especially in the United States. American entrepreneurs interested in starting a cannabis-related business may find it challenging to start up because regulations and laws are often confusing, including banking restrictions. Because the drug is federally prohibited, cannabis-related companies can't secure full-service banking.

Many of the publicly-traded cannabis companies open to investors are based in Canada, where the drug is legal. But because there's still a lot of speculation surrounding the industry, developers and providers tend to have stocks that trade over-the-counter (OTC) with small market capitalizations—usually less than $300 million. This means investors have to bear the brunt of all the risks associated with penny stocks. These stocks—often called small caps, micro caps, or nano-cap stocks—trade infrequently and for less than $5 per share.

How to Grow Your Portfolio

So what does this mean for your portfolio? As an investor, you have a few options available. You can trade cannabis stocks that trade on some of the global exchanges, including the Toronto Stock Exchange (TSX), the New York Stock Exchange (NYSE), and the Nasdaq.

You can also invest in cannabis-related exchange-traded funds, such as AdvisorShares Pure Cannabis ETF (YOLO) and Cannabis ETF (THCX).

Investors should keep in mind that the marijuana industry can still live or die at the whims of law enforcement. Remember that some states, along with the federal government, still consider the drug an illegal substance.

With many companies newly introduced to the market and trading at low valuations, penny stocks can be an easy and optimal opportunity on which investors can capitalize.

We've provided a list of the top-performing marijuana penny stocks below that trade across all market exchanges—with penny stocks generally characterized as trading at a value of up to $5. The list is compiled using a one-year return, providing insight into the sector and sub-sector where these companies are active in their business operations.

Mind the Risk

Investing in an up-and-coming industry may be enticing. After all, who doesn't want to be among the first to rake in big returns when companies start to cash in? But remember one thing. Any time you invest in penny stocks or in an industry that's heavily driven by speculation, you're setting yourself up for a significant amount of risk.

As noted above, penny stocks trade OTC or on the Pink Sheets. This means they aren't required to submit filings to the Securities and Exchange Commission (SEC) because they don't meet minimum requirements. This means there is no transparency and very limited information available to investors. Put simply, the information you'd receive for a larger company isn't available for a penny stock.

This leaves investors open to fraud, notably pump-and-dump schemes. This involves a group of investors who purchase the stock based on information issued by the company. This boosts the value of the stock on the market. Others, hoping to cash in on the good news, jump on board and purchase shares in the company. Once the price appreciates, fraudsters end up selling—or dumping—their shares, leaving unsuspecting investors in the lurch.

Penny stocks are also thinly traded, meaning they lack sufficient liquidity. When an investor wants to trade a stock that fits into this category, they may not be able to do so at the price they want because they aren't able to find enough buyers or sellers. This can greatly increase the cost of trading and cost a lot of money.

The Bottom Line

The potential for capital appreciation in the cannabis industry is exponential. The industry seems to be steadily transforming and evolving, with legalization in Canada and a growing number of states increasing their marijuana acceptance. What was once essentially a black market sector is now becoming more mainstream to all types of investors.

With the industry still in its infancy, investors can find many marijuana stocks for less than $5 per share—but like all penny stocks, they're susceptible to manipulation and fraud by promoters and corporate insiders. But given their strong underlying fundamentals and integrated business operations, the companies above could be among some of the most likely candidates to emerge and gain a stronger foothold across the industry as a whole.