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Article / Updated 04-25-2023
Momentum investors (speculators) lean toward technical analysis instead of fundamental analysis when choosing which stocks to buy, when to buy, and when to sell. Investors who rely on technical analysis spend most of their time looking at charts to spot patterns in an attempt to predict the future movement of a stock’s price. Upward momentum With momentum investing, you basically want to buy stocks that show sustainable upward momentum and sell them before the price starts to trend downward. The key word here is sustainable, which means you’re looking for a pattern that you have reason to believe will continue for the foreseeable future. One way to identify a stock with sustainable upward momentum is to look at its 50-day and 100-day simple moving averages in relation to one another. A simple moving average (SMA) shows the change in a stock’s average price over a certain number of days. For example, to calculate the five-day SMA of a stock for a given day, you total the stock’s closing prices over the past five days and divide by five. To calculate the 50-day moving average, you total the stock’s closing prices over the past 50 days and divide by 50. To create an SMA chart, you calculate the SMA for the desired period (for example, for each of the past 50 days) and plot those points on a chart, as shown. You end up with a line or curve that smooths out the daily fluctuations in the share price (which reduces the “noise”) to make the stock’s overall momentum clearer and easier to visualize and understand. The good news is that you don’t have to calculate simple moving averages and chart them. Nearly every online broker features moving average charts as part of its service. I explained how to calculate the SMA and create a chart just so you would have a clearer understanding of how this investment strategy works. As a momentum investor, you look for times when the short-term upward trend is strong enough to trigger a positive shift in the long-term trend. The most common way to spot such a shift is to chart a stock’s 50-day and 100-day moving averages and look for points where the two lines cross. When the 50-day SMA line moves from below to above the 100-day SMA line (see the following figure), this is a sign that the short-term trend may be strong enough to trigger an upward shift in the long-term momentum — a buy signal. However, if you look at enough of these moving averages charts, you start to notice that this technique doesn’t always work. You’ll notice plenty of instances where the 50-day SMA line moves from below to above the 100-day SMA line that corresponds with a sell-off. Likewise, you’ll notice plenty of instances where the 50-day SMA line dives down below the 100-day SMA line corresponds to an upward shift in share price. In other words, don’t blindly follow this technique. Momentum investors may examine the SMA over longer periods or use other types of charts to gauge a stock’s momentum and identify buy and sell opportunities, but this basic method enables you to wrap your head around the concept and try it if you so desire. Be careful buying into an apparent rally, because short sellers can quickly inflate a stock’s price when they exit their positions in anticipation that the stock price will soon tank. Downward momentum After buying a cannabis stock with upward momentum, your next decision is when to sell it. At this point, monitoring the stock’s SMA is even more important, because at any time in the future, the trend can flip from upward to downward. You want to sell your stock as close to the stock’s peak as possible, and as you feel comfortable doing. As is commonly said among investors, “Pigs get fat, and hogs get slaughtered.” Don’t be too greedy when deciding the right time to sell. If you’re unsure whether a stock has peaked, consider cashing out your principle (the initial amount you invested) and riding to the top with your gains (the remaining shares). As you become more familiar with cannabis stocks, you may want to consider taking bigger risks. Deciding when and how much to sell depends on your personal risk tolerance and how much you can afford to and want to gamble. Now, instead of looking for points where the 50-day SMA moves from below to above the line for the 100-day SMA, you want to watch for when that 50-day line crosses down from above to below the 100-day line (see Figure 13-3). How far that 50-day line dives down before you pull the trigger is up to you, but if you want to remain true to this strategy, the sooner you sell, the better.
View ArticleCheat Sheet / Updated 04-12-2023
Stock investing can be exciting, but it shouldn’t be a rollercoaster ride for Canadian investors. If you know how to read company reports and what financial measures to review, you’re more likely to pick a winning stock. Staying up to date on market conditions ensures you’ll know when it’s best to buy or sell.
View Cheat SheetCheat Sheet / Updated 11-08-2022
Listen to the article:Download audio You're investing in stocks — good for you! To make the most of your money and your choices, educate yourself on how to make stock investments confidently and intelligently, familiarize yourself with the online resources available to help you evaluate stocks, and find ways to protect the money you earn. Also, be sure to do your homework before you invest in any company's stock.
View Cheat SheetArticle / Updated 09-29-2022
People who invest online are usually do-it-yourself investors. This means they're probably working without a tax consultant. But this can make it hard to understand how the money they earn while investing is taxed. That's where understanding capital gains taxes enters the picture. When you sell a stock held in a taxable account that has appreciated in value, you usually have taxes to pay. Generally, such capital gains taxes are calculated based on the holding period. There are two holding periods: Short-term: That's the type of capital gain you have if you sell a stock after owning it for one year or less. You want to avoid these gains if you can because you're taxed at the ordinary income tax rate, which, as I explain shortly, is one of the highest tax percentages. Long-term: That's the type of capital gain result you get if you sell a stock after holding it for more than one year. These gains qualify for a special discount on taxes. You must own a stock for over one year for it to be considered a long-term capital gain. If you buy a stock on March 3, 2019, and sell it on March 3, 2020 for a profit, that is considered a short-term capital gain. Also, an important thing to remember is that the holding-period clock starts the day after you buy the stock and stops the day you sell it. Selling even one day too soon can be a costly mistake. If you're interested in cutting your tax bill in a taxable account, you want to reduce, as much as possible, the number of stocks you sell that you've owned for only a year or less because they're taxed at your ordinary income tax levels. You can look up your ordinary income tax bracket at this Internal Revenue Service website. Need an example? Say a stock rose from $10 to $100 a share (for a $90 per share gain). Say that you had $50,000 in taxable income that year and sold the stock after owning it for just three months. Your gain would fall from $90 to $67.50 after paying $22.50 in taxes. By owning stocks for more than a year, gains are taxed at the maximum capital gain rate. The rate you pay on long-term capital gains varies based on your normal tax bracket, but such rates are almost always much lower than your ordinary income tax rate, if not zero. Yes, zero — some investors' long-term capital gains are tax free! Long-term capital gains rates, though, can change dramatically due to political pressure. The following table shows the maximum capital gain rates for 2009 and 2010 for typical investments such as stocks and bonds. Maximum Capital Gain Rate If Your Regular Tax Rate Is Your Maximum Capital Gain Rate Is Greater than 35% 20% 25% or higher 15% Lower than 25% 0% Source: Internal Revenue Service
View ArticleArticle / Updated 09-29-2022
A stop-loss order (also called a stop order) is a condition-related order that instructs the broker to sell a particular stock in your investment portfolio only when the stock reaches a particular price. It acts like a trigger, and the stop order converts to a market order to sell the stock immediately. The stop-loss order isn’t designed to take advantage of small, short-term moves in the stock’s price. It’s meant to help you protect the bulk of your money when the market turns against your stock investment in a sudden manner. Say that your Kowalski, Inc., stock rises from $10 to $20 per share and you seek to protect your investment against a possible future market decline. A stop-loss order at $18 triggers your broker to sell the stock immediately if it falls to the $18 mark. If the stock suddenly drops to $17, it still triggers the stop-loss order, but the finalized sale price is $17. In a volatile market, you may not be able to sell at your precise stop-loss price. However, because the order automatically gets converted into a market order, the sale will be done, and you’ll be spared further declines in the stock. The main benefit of a stop-loss order is that it prevents a major loss in a stock that you own. It’s a form of discipline that’s important in investing in order to minimize potential losses. Investors can find it agonizing to sell a stock that has fallen. If they don’t sell, however, the stock often continues to plummet as investors hope for a rebound in the price. Most investors set a stop-loss amount at about 10 percent below the market value of the stock. This percentage gives the stock some room to fluctuate, which most stocks tend to do from day to day. If you’re extra nervous, consider a tighter stop-loss, such as 5 percent or less. Please keep in mind that this order is a trigger and a particular price is not guaranteed to be captured because the actual buy or sell occurs immediately after the trigger is activated. If the market at the time of the actual transaction is particularly volatile, then the price realized may be significantly different.
View ArticleCheat Sheet / Updated 05-03-2022
Make smart trading decisions using candlestick charting. This cheat sheet shows you how to read the data that makes up a candlestick chart, figure out how to analyze a candlestick chart, and identify some common candlestick patterns.
View Cheat SheetCheat Sheet / Updated 04-26-2022
The practicality of trend trading is that you're waiting for the market to "show its hand" by establishing a clear direction and then jumping onboard for the ride. This handy Cheat Sheet provides an overview of how to follow the big-money market players to the glorious land of profitability. Get tips on why trend trading works so well, how to determine a trend that will continue after you enter the market, and how to manage your risk once you're in a trade.
View Cheat SheetArticle / Updated 03-31-2022
You’ll find no shortage of investing strategies and schemes online for earning a fortune trading stocks, but no magic formula exists. If such a formula did exist, the person who discovered it probably wouldn’t be so eager to share it or to try to make money selling the “foolproof” technique. You can also find plenty of investment gurus online touting the best cannabis companies or stocks to invest in or predicting what will be the next big thing in cannabis, but can you really trust them? The most profitable and safest way to invest in cannabis is no secret: Put your money in the best companies. While that certainly sounds easy enough, how do you know which cannabis companies are best? How do you really know that a company will be successful and that you’ll earn a good return on your investment? The answer is, you don’t. However, you can increase your odds by investing in profitable businesses, or businesses that have what it takes to be profitable. Following are 11 criteria for choosing a business to invest in. A business doesn’t have to meet all ten criteria to be a good investment. For example, if a business has a great management team, the fact that the business isn’t profitable yet may be less important. However, you should consider all these criteria before investing in any cannabis business. Experienced and successful management team I cannot stress enough the importance of vetting the people who are running the business. These are the folks who will make or break the business (and your investment), so you want to be sure they’re knowledgeable and experienced in both cannabis and running a business, and that they don’t have a history of failed business ventures. Here’s what to look for: Any past criminal activity that could be a warning sign that the business is not legitimate, such as past Securities and Exchange Commission (SEC) violations Cannabis knowledge and experience Business management knowledge and experience No long track record of failed business ventures A positive reputation — respected in the cannabis industry or in business circles An individual rarely has all of the qualities needed to run a successful cannabis business. For example, someone with loads of cannabis knowledge and experience may not have business or people management expertise. However, the management team, as a group, should have all of the knowledge, skills, and experience required. Steady revenue growth Revenue growth is a good indicator of a business’ success, showing whether sales are increasing or decreasing. If revenue growth is steady or negative, the business is failing to remain competitive. Check the business’ revenue from month to month and from quarter to quarter. If the company has been in business for several years, look at its annual revenue from one year to the next. You can find a company’s revenue on its income statement. To compare revenue growth between two or more businesses, convert the dollar values to percentages. Start with this year’s revenue, subtract the revenue from the same period last year, divide the result by last year’s revenue, and then multiply by 100. Note that you don’t need to know the revenue for an entire year to make this calculation. For example, suppose it’s July, so the business only has revenue from the first six months of this year. This year, the company had $10 million in revenue. For the first half of last year, the company had $8 million in revenue. Its revenue growth as a percentage is: ($10 million – $8 million)/$8 million x 100 = 25% Consistent profit growth Profit is total revenue minus total expenses. A positive result means the business has earned more than it has spent. A well-run business shows growth not only in revenue but also in net profit. Negative or declining profit growth with rising revenue growth could be a sign that a business’ operational efficiency is dropping — that revenue isn’t keeping up with increases in expenses to operate the business. A negative profit margin (revenue minus expenses) is not necessarily bad. Successful businesses often operate at a loss when they’re investing toward future growth. If profit growth is negative or declining, dig deeper to find out what the business is investing in, how it’s getting the money to continue operating, and, if it is borrowing money, whether it has the means to make the loan payments. Comparatively low price-to-earnings ratio What is the price-to-earnings (P/E) ratio? It is a stock’s share price divided by its earnings per share, which is the company’s total profits divided by the number of shares. Suppose a stock’s share price is $10, its annual profit is $1 million, and the total number of shares is 500,000. Earnings per share is $1 million divided by 500,000, which equals $2 per share. The P/E ratio is $2 divided by $10, which is a ratio of 5 to 1. By itself, the P/E ratio doesn’t tell you much, but when you compare it to the P/E ratios of other companies in the same business, it’s a good indicator of whether a stock’s price reflects the company’s value. A comparatively low P/E ratio may indicate a good value for your investment. Don’t consider the P/E ratio in a vacuum. A company that’s growing fast and investing heavily in that growth may have a high P/E ratio but be a better investment than a company that’s more profitable now but is losing market share. Positive money flow indicator One way to gauge a company’s value is to check the money flow index (MFI), which measures the momentum of a security by looking at movements of trading volume and price. If investment dollars are flowing toward one company and away from another, this trend could be a sign that the company drawing more investor interest is on its way up, while the other company is on its way down. The MFI falls into the realm of technical analysis, and it may not be the best indicator of a company’s health. A rising share price could be an indicator of a pump-and-dump scheme or simply that the company’s name was mentioned in a news article that shed a positive light on it. It’s more an indicator of investor sentiment than the health and vitality of the business. Expanding free cash flow When a company has a positive cash flow (is earning more than it’s spending), it has money to reinvest in the business, settle debts, pay expenses, build a buffer against future financial setbacks, and even share its profits with investors. Generally speaking, you want to invest in companies that demonstrate an increasingly positive cash flow. In a young industry like cannabis, in which businesses are just getting started, fewer businesses are likely to have a positive cash flow, let alone an expanding free cash flow. They’re more focused on getting started and growing. In addition, too much free cash flow could be a sign that the business isn’t spending enough money for growth or isn’t leveraging the money it has as optimally as possible. Operations in other states or countries Due to laws prohibiting the sale and transportation of marijuana across borders, cannabis businesses often struggle to survive in their own jurisdictions and face even greater challenges establishing operations in other states and countries. However, those that are successful in increasing their reach tend to be impacted less by challenges or setbacks in individual markets. In addition, they’re better positioned to expand into other markets as marijuana laws are relaxed. Growing market Markets for certain products expand and contract. For example, the market for vape products in the cannabis industry is huge, because many consumers want a similar experience to smoking it, without the smoke. However, when people started getting sick from black market vaping products, the vape market took a huge hit. It has since recovered, but this example shows how industries can be affected by new products (vapes) and news. Before investing in a company, consider how well it caters to current consumer demand and how well it adjusts to changes in consumer demand. In many ways, the cannabis industry is like the smartphone industry — to be successful, a cannabis company must be able to stay ahead of the curve on consumer demand. Increasing market share The cannabis industry is highly competitive, and demand for product isn’t unlimited. To grow, businesses must increase their share of the pie; they can’t simply make more pie (increase demand). And, the ability to grow by expanding into different markets is often restricted by legal and regulatory issues. So, when investing in cannabis, look for companies with increasing market share. You may be able to find out a cannabis company’s market share by researching on cannabis business news sites. Or, you can search these same sites to find out the total revenue for the industry in the country or state in which the company operates and then divide the company’s revenue by the industry’s revenue for that same period. Positive reputation in the industry As you immerse yourself in the cannabis industry and read cannabis newsletters and other publications, you’ll begin to notice the names of companies and people appearing again and again. Pay close attention to which companies and people seem to be leading the industry. Which people are renowned authorities in the industry? Which companies and people seem to be the most highly respected? Then, research these companies and individuals to find out what they’re doing and what they’re saying about other businesses and individuals in the industry. As you begin to identify the movers and shakers in the industry, you’ll develop a better sense of where to invest your money. Who’s partnering with whom? Where are cannabis companies going to buy the products and services they need? You can often tell a lot about a company by looking at its business associates. Manageable debt Plenty of companies, including cannabis companies, struggle with solvency. Excessive debt is a key issue in today’s economy. When domestic energy became a hot industry a few years ago, many of those companies ultimately went bankrupt due to unsustainable debt. Imagine if you didn’t have enough income to cover your mortgage, utility bills, and credit card payments — the same thing can happen to businesses. Managing debt is a critical success factor especially for cannabis (or any) companies that are not yet profitable. You also want to look at the debt holder. Some companies, particularly those that seek aged debt, are toxic lenders. Avoid any company that has debt holders with convertible notes or aged debt — it’s a killer.
View ArticleArticle / Updated 03-31-2022
When discussions arise about the legality of cannabis, they usually revolve around growing it, selling it, or possessing it. However, cannabis laws and the enforcement of those laws also impact the industry, influencing everything from where different cannabis businesses can operate and under what conditions, to the taxes and fees they pay and, ultimately, the cost and availability of the product. Complications and confusion often arise over differences in laws and regulations at the federal, state, and local levels. For example, in the U.S., cannabis is illegal at the federal level, legal for medical use in many states, legal for both medical and adult use in several states, and prohibited for sale and possession in many municipalities within states where it’s legal. In 2013, Uruguay became the first country to officially legalize cannabis for both medical and adult use. In 2018, Canada became the second country and the first G7 member to legalize cannabis. In the provinces of Quebec and Alberta, the legal age is 18; in the remainder of the country, it’s 19. In New Jersey, before voters even had a chance to vote on a proposition to legalize adult-use marijuana, more than 50 local governments already had passed laws banning its sale or possession. This article brings you up to speed on federal, state, local, and international marijuana laws in the hopes that by knowing the laws, you’ll be better prepared to ride the waves that are sure to rock the cannabis industry as its future unfolds. U.S. cannabis federal law and enforcement In the U.S., in the 1800s, marijuana was used as an ingredient in many medicinal products sold in pharmacies across the country, but by 1931, 29 states had outlawed it, citing research at the time that linked the use of marijuana with violence, criminal activity, and other deviant social behaviors. Federal regulation didn’t occur until President Franklin D. Roosevelt signed the Marihuana Tax Act of 1937, which required every person who sold, acquired, dispensed, or possessed marijuana to register with the Internal Revenue Service (IRS), pay taxes on their transactions, and complete an order form that required the name and address of both buyer and seller and the amount of marijuana being sold or bought. Although the act did not specifically criminalize marijuana, it came to be used in that way. In 1970, the Supreme Court overturned the law, and Congress repealed it but simultaneously passed the Controlled Substances Act, designating marijuana a Schedule 1 controlled substance based on the belief that it had a high potential for abuse, no currently accepted medical use, and a lack of accepted safety regarding the use of the drug. Adding marijuana to the list of Schedule 1 controlled substances (along with heroin, LSD, ecstasy, and magic mushrooms) effectively made it illegal for anything other than very limited research. In particular, the following activities are federal crimes: Transporting cannabis across any state line, even if it’s transported from one state in which it’s legal directly to another. Flying with cannabis, because it enters into federal airspace. Possessing or using marijuana on federal land, including national parks and forests. Federal laws and their enforcement impact cannabis businesses and investors in the following ways: Because transporting cannabis across state lines is illegal, cannabis businesses that want to expand sales into other states must duplicate their operations in those states. They can’t take advantage of economies of scale simply by shipping their products across state lines. The Bank Secrecy Act (BSA) and federal money-laundering statutes discourage banks from offering services to cannabis businesses. (Passed in 1970, the BSA is a U.S. law that requires financial institutions in the U.S. to assist federal agencies in detecting and preventing money laundering.) Violations can result in steep fines and imprisonment of bank officials. Inaccessibility to basic banking services increases the costs and complexities of operating cannabis businesses. Some banks are starting to serve cannabis businesses, and the Financial Crimes Enforcement Network, the financial intelligence unit of the U.S. Department of Treasury, offers guidance to banks on how to comply with regulations when serving marijuana and ancillary businesses. However, compliance places an added burden on banks to police the marijuana businesses they serve. In addition, the Department of Justice reserves the right to prosecute banks for working with these businesses, which face these obstacles: Without basic banking services, cannabis businesses have no access to the capital markets, which are useful for raising money for development and growth. They need to rely on private investors, which provides private investment opportunities but at a very high risk. According to the principles of contract law, any contract in breach of public policy is void and unenforceable, which is a major concern for investors or funds regarding any investment contract’s legitimacy. This concern serves as another obstacle to cannabis businesses seeking to raise investment capital for development or expansion. Cannabis businesses are required to pay income taxes, but filing tax returns (federal and state) constitutes self-incrimination. In addition, without banking services, cannabis businesses must pay their taxes in cash, which is inconvenient, costly, and risky. Due to the 280E provision in the IRS tax code, cannabis businesses are prohibited from deducting ordinary business expenses from their gross income, thereby significantly increasing their tax burden and negatively impacting their profitability. Bankruptcy protections are unavailable for cannabis businesses in the U.S. Without the option to restructure, cannabis businesses are often forced to shut down when they encounter credit issues. As a result, creditors may have difficulty collecting their debts, which discourages them from loaning money to cannabis businesses in the first place. Fear among potential customers of losing a federal job, student financial aid, the right to own a firearm, or eligibility for federally subsidized housing can put downward pressure on cannabis sales. If marijuana is legalized at the federal level, the entire business environment will change, allowing large, well-established companies in other industries, such as alcohol, tobacco, and pharmaceuticals, to compete for market share. So, what does this mean for investors? Regulations generally move in a direction that favors growth and investment opportunity. At this time, more than two-thirds of Americans live in a jurisdiction that has some form of legal cannabis. The country is trending toward a repeal of prohibition, but that will likely be a slow and clumsy process from a regulatory standpoint. If you’re looking to invest in licenses and permits, consider states with a more limited number of granted permits. States that limit the number of permits make those permits more valuable by doing so. You also want to consider states that have constitutions providing for voter referendums. As you do, you’ll notice that most states that allow for referendums are west of the Mississippi and business friendly. There’s a historical reason for that. Those states joined the union in the 19th century, and their state constitutions are based on the Spanish and French democratic models that allow voters to pass laws by referendum. As a result, and generally speaking, states with voter referendum and business-friendly regulatory environments tend to have legislation providing for some degree of legalized cannabis. Be careful when you’re considering investing in any company whose licenses are based on narrow zoning laws. I’ve invested in real estate that was once coveted because it was zoned for cannabis only to have the city loosen its zoning restrictions six months later. I paid a premium for the property, only to see its value drop when zoning laws made more real estate available for cannabis businesses. I could have avoided that mistake by researching more thoroughly what was on the ballot or what was being discussed by the zoning committee. Keep an eye on the Strengthening the Tenth Amendment Through Entrusting States (STATES) Act, which would amend the Controlled Substances Act (CSA) so that any state-legal cannabis activity would no longer be considered illegal under federal law. The STATES Act would also solve the cannabis banking problem, because the federal money-laundering statute is triggered only for illegal activities. Likewise, because the 280E provision applies only to revenue generated by illegal means, cannabis businesses would be able to deduct their business expenses just like any legal business. Although the STATES Act has bipartisan support and was passed by a large margin in the House of Representatives, as of this writing, the bill was hung up in the Senate. The Cole Memorandum During the Obama administration, on August 29, 2013, U.S. Deputy Attorney General James M. Cole issued a trio of memos, including the Cole Memorandum, to all U.S. attorneys general. The memo informed them that due to limited resources, the U.S. Department of Justice would not be enforcing federal marijuana prohibition in states that legalized and effectively regulated and enforced their own marijuana laws. The memo directed the state attorneys general to “not focus federal resources in your states on individuals whose actions are in clear and unambiguous compliance with existing state laws providing for the medical use of marijuana.” Instead, states were encouraged to address federal priorities, for example, “by implementing effective measures to prevent diversion of marijuana outside the regulated system and to other states, prohibiting access to marijuana by minors, and replacing an illicit marijuana trade that funds criminal enterprises with a tightly regulated market in which revenues are tracked and accounted for.” This memo was rescinded under the Trump administration in January 2018 by Attorney General Jeff Sessions. The impact of the rescission in individual states has yet to be determined, but it’s a cause for concern because it indicates that the feds may be leaning toward greater enforcement of the federal prohibition of marijuana. State cannabis laws Although cannabis is federally illegal, each state has the right to legalize it within its borders and set the rules and regulations for personal and commercial growth, production, transportation, sale, possession, and use. States fall into one of the following five categories: Fully legal: Both medicinal and adult use are allowed. Fully illegal: No medicinal or adult use is allowed or decriminalized (see the final item in this list for more about decriminalization). Medical and decriminalized: Medical use is legal, and possession and use is decriminalized. Medical only: Marijuana is legalized only for medical use, which in some states allows only cannabidiol (CBD) oil use (CBD doesn’t contain the psychoactive ingredient THC). Decriminalized: Possessing or using small amounts of marijuana will not lead to arrest, prosecution, prison time, or a criminal record (decriminalization details vary by state). The easiest way to find out where each state in the U.S. stands on legalization is to search the web for “marijuana legal states.” You’ll see a color-coded map like the one shown. State marijuana laws change frequently, so access a map from a reliable source that has current information. State laws and enforcement of those laws can negatively impact cannabis businesses and investors in several ways, including the following: Every state in which marijuana is legal has numerous rules and regulations that apply to marijuana growers, producers, sellers, and distributors. These rules and regulations govern everything from verifying the identities of buyers to packing, labeling, and tracking products, and all of them add to the cost and complexity of doing business. Marijuana taxes vary by state, with adult-use marijuana typically taxed at a much higher rate than medical marijuana. Higher taxes add to the product cost and can drive sales to illegal sellers, negatively impacting sales for legal businesses. States vary in the number of legal cannabis businesses they allow, how much they charge for licenses, and how quickly they implement legalization, which can all impact how successful cannabis businesses are in each state. Some states require marijuana businesses to reserve large amounts of cash before applying for a license. This practice encourages rolling up marijuana businesses—a method that involves acquiring and merging small businesses to increase their collective value. In these states, large marijuana businesses have a distinct advantage over smaller operations. State laws may stipulate residency requirements for investors in cannabis businesses. Some states in which marijuana is legal are less stringent in enforcing laws against illegal sales, which can negatively impact sales for legal businesses. Local laws In states where cannabis is legal, local municipalities can separately regulate its growth, production, and sale within their borders. They are also allowed to add taxes and fees to commercial efforts above and beyond those of the state. In some cases, municipalities can completely ban commercial endeavors. For example, Colorado Springs permits medical sales but has continued to ban adult-use dispensaries. Penalties can vary significantly from one municipality to another. These variations and costs can negatively impact the sales and profits of cannabis businesses, even in states in which cannabis is legal. Cannabis laws in other countries As an investor, you want to know about a cannabis company’s range of operations—specifically, the countries it serves around the world. A company that operates in several countries may be less susceptible to changes in laws and regulations than a company operating in only one country. In addition, a company’s global reach reflects its ambitions for growth. Here’s a list of countries in which cannabis is legal or decriminalized to some degree: Australia Canada Germany Italy Mexico The Netherlands New Zealand South Korea Spain Switzerland Uruguay S. Virgin Islands Carefully research each market before investing in companies that operate in it. Examine the laws and enforcement of those laws, cannabis demand, the costs of doing business, competition from illegal sellers, and other factors to gain a better understanding of the potential for sales, profits, and growth, as well as the risks involved.
View ArticleArticle / Updated 03-31-2022
You’re going to invest in cannabis. Remember that investing in cannabis is risky business. Many people who invested years ago got the jitters, sold their shares, and lost a lot of money. Some people lost money to con artists or well-intentioned friends or family members. Others lost out because they invested in cannabis businesses that didn’t make it. However, as long as you’re well aware of the risks, if you decide to move forward, I applaud your bold initiative, and I hope you receive ample compensation for your risk-taking. People like you are the ones who drive innovation and fuel the success of new industries such as cannabis. Still, I’m going to take this opportunity to caution you in the hopes that the risks persuade you to tread carefully — to do your homework and perform your due diligence. Savvy investors stand to earn handsome returns on their investments as long as they make smart investments. Those who rush in and are clueless and careless will lose their shirts. Following are 10 reasons for not investing in cannabis. Keep these reasons in mind as you seek your fortune in the green rush. Marijuana is still federally illegal in the United States Although momentum seems in favor of federal legalization of marijuana sometime in the future, nobody has a crystal ball that can tell them for sure what will happen. A new study might come out revealing some currently unknown harmful effect that makes legislators who are already against legalization dig in their heels. Or, some other unforeseen event or change in culture or beliefs could cause voters to become less accepting of marijuana use. Who knows? Until marijuana is federally legal, the federal laws against it will restrict growth in the industry in several ways, including the following: Increase the cost of doing business Continue to fuel the black market for cannabis Complicate and increase the cost of expanding businesses across state lines and into foreign markets Make banking and other financial services less available for cannabis businesses When you invest in cannabis, to a certain degree, you’re betting that it will ultimately become legal on a federal level. I believe that will happen, eventually, but it’s not a sure thing, and even if it were, nobody knows when it will happen. Marijuana investment scams are rampant Con artists profit on the human desire to have a better life. Some would call that greed, but I really think most people just want to have enough money to pursue their dreams. Many people see cannabis as the next gold rush. In fact, the recent boom in legal cannabis companies has been described as a “green rush.” Everyone wants to get in on the action and not to miss out on the opportunity to profit from this exciting new industry. And that’s exactly what makes people vulnerable to scams — that and the fact that people generally trust others. Con artists know that people are eager to invest in cannabis, so whenever someone expresses this eagerness, they become a target. Of course, the threat of a scam isn’t reason enough to avoid investing in cannabis, but it is a good reason to remain skeptical of opportunities that seem too good to be true. Earning a profit as a cannabis business is a huge challenge As an investor, you’re wise to invest in profitable businesses or at least those that have a good chance of being highly profitable. Unfortunately, cannabis is a heavily taxed and regulated industry, which increases the costs and complexities of doing business. It’s not like selling bottled water. Here are a few line items that take a huge bite out of cannabis business profits: Taxes. Cannabis businesses are prohibited from claiming business deductions on their federal taxes. Also, the high sales and excise taxes on cannabis products reduce demand and steer sales to the black market. Application and licensing fees. Application and licensing fees for legitimate cannabis businesses can be exorbitant in some states; for example, Connecticut charges a $25,000 application fee and a cultivation licensing fee of $75,000. In addition, businesses often must hire a lawyer to navigate the process. Capital requirements. Many states require cannabis businesses to hold a certain minimum in liquid assets (typically hundreds of thousands of dollars) to obtain and keep their license. Compliance costs. Companies often incur high legal costs and must purchase specialized software to remain compliant because most states require tracking cannabis “from seed to sale.” I could go on, but the point is that earning a profit in cannabis isn’t easy, and until it becomes easier, cannabis businesses will have a tough time proving their value to investors. Illegal operations undermine demand for legal products In many areas where cannabis is legal, the black market continues to thrive because 1) cannabis is often cheaper on the black market where businesses don’t pay taxes or application and licensing fees and don’t incur the costs of attorneys and compliance, and 2) the cannabis community is sort of anti-establishment, so many consumers prefer to buy from unlicensed growers and dealers. In addition, in many states in which cannabis is legal, people are allowed to grow a certain number of cannabis plants of their own. They need to buy seeds, fertilizer, and maybe the equipment to set up a grow room, which gives suppliers of those items additional business, but it decreases demand from commercial growers, manufacturers, and dispensaries. The industry is very fragmented The cannabis industry consists mostly of small businesses competing against one another, which means businesses will come and go. Some will fail, and some will succeed. Eventually, as cannabis legalization grows, large national companies will step in and either buy up competing companies or drive them out of business. People who invest in cannabis now, when the industry is fragmented, are likely to experience losses as some of the companies they “bet on” fall to the competition. The take-home message here is that if you’re accustomed to trading in companies listed on the major stock exchanges, such as the NYSE and Nasdaq, now may not be the best time to invest in cannabis. You may want to wait until the industry starts to consolidate; then, you’ll have an easier time predicting winners and losers. Oversupply is more likely than not Many states in which cannabis is legal face problems with oversupply — too many growers growing more cannabis than the consumers in the state want or need. Oversupply drives down prices and profits and makes companies less attractive to investors. Oversupply is another problem that’s at least partially due to the fact that cannabis is illegal on a federal level. If cannabis were legal federally, or if growers could at least ship their products over state lines, they’d have a larger market in which to sell and compete. As it is now, states must deal with the problem of oversupply internally, which usually means issuing fewer licenses to cultivators or charging significantly more for applications and licenses. Bad news is just around the corner To a large degree, rumors and news drive the stock market. In fact, some investment gurus advise to “buy on the rumor and sell on the news.” With cannabis, the opportunity for bad news is pretty high. In 2018, good news (mostly a combination of hype and hope) drove share prices in cannabis companies sky high. Shortly thereafter, the bad news (mostly poor earnings reports from some of the major players) led to a massive selloff. This boom-to-bust cycle is likely to continue because hype and hope continue to motivate investors in this industry. In addition, because cannabis is a drug, both good news about its benefits and bad news about its side effects are likely to contribute to the volatility. There is money to be made by investing in cannabis, but I urge you to invest with your head and not your heart. Carefully research each company’s fundamentals and be sure the share price is supported by those fundamentals. Marijuana laws are slow to change As long as marijuana remains illegal at the federal level, many states are going to drag their feet over legalization, and local jurisdictions are going to use the federal law as an excuse to pass their own restrictions on its sale and use. When the federal prohibition of marijuana will end is anybody’s guess. I think it’s likely to happen the next time the Democrats control the White House and Congress, which might happen before this book is published, four years later, or maybe even a much longer time from now. Company shares are being diluted Companies can secure financing through debt (borrowing) or equity (selling shares in the company), which is true of all companies. What’s different about cannabis companies is that they have trouble securing loans from banks, so they have to rely more on equity. When they get in a financial pinch, if they can’t get a loan, they need to sell more shares, and the more shares they sell, the more diluted the price of existing shares becomes. Unfortunately, investors have little control over decisions to issue more shares, even though that decision impacts the value of their investment. Shares can be diluted in any sector, any industry, and any company, but the possibility is higher among cannabis companies. Demand is unpredictable Several states that have legalized marijuana are finding that demand can be unpredictable for a variety of reasons, including the following: Cross-border sales may increase demand for marijuana in legal states surrounded by illegal states. However, when bordering states legalize it, cross-border sales decline. Any black-market sales reduce demand for legal cannabis. Any bad news about negative side effects reduces demand, although the drop in demand is usually short-lived. Whether demand for cannabis will increase or decrease with its legalization is hotly debated. I think demand is almost certain to rise with legalization, but others think it could fall as marijuana loses its appeal as a “forbidden fruit.”
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