Whatever the sector, the most critical component of risk management is diversification.iStockPhoto / Getty Images
For cannabis investors, it depends on affordable diversification
The legalization of recreational marijuana in 10 U.S. states and Canada has had far-reaching effects, but none more explosive than in the investment sector. “I’ve been covering investments as a journalist and here at Horizons for roughly 15 years now, and I’ve never seen an asset class capture the imagination of active, self-directed investors to this degree,” says Mark Noble, Horizons’ head of ETF strategy. “There’s a fervour around it. It’s exciting – they want to be in this new space and they’re recognizing the return potential.”
But despite the profit potential inherent in a massive new industry sector, the laws of risk and return still apply, Mr. Noble stresses. “This is an early-stage sector with high volatility, where you can be up 60 per cent in January and down nearly 20 per cent in the fourth quarter of the year, as in 2018. Those large swings occur, and it doesn’t always align with the long-term goals of Canadian investors.”
Whatever the sector, the most critical component of risk management is diversification. In the early stages of the smartphone era, he points out, the leaders were Research in Motion, Apple and Palm Pilot. “If you picked the wrong stock and held it for a long time, it would have had a very negative impact on your overall returns. But at the time, they all looked like great investments, early-stage leaders.
“If you were lucky and chose Apple, you came out far ahead of everyone else. But you also did well if you chose to own all three. If you invest in the overall sector, you get the returns of the top performing stocks, albeit somewhat diminished by the poor performers.”
If you invest in the overall sector, you get the returns of the top performing stocks, albeit some what diminished by the poor performers.
— Mark Noble, head of ETF strategy, Horizons
That makes ETFs ideal for emerging sectors with high potential for losses as well as gains. When Horizons launched HMMJ, its first cannabis-focused ETF, in 2017, it was in response to the needs of investors who were already investing in the early-stage leaders. The first of its kind in the world, it’s now reached $1-billion in assets.
The fund currently holds about 60 companies, tracking the North American Marijuana Index, which caps each stock at a maximum 10 per cent of the index at each rebalance. In addition to expertly managing the liquidity of the portfolio, Horizons has the ability to lend out up to 50 per cent of the fund’s shares to high-end brokerages, generating income that helps offset periods of volatility.
Growing liberalization in the U.S. and the vast potential market for nutraceuticals and other wellness products means that market growth has just begun, Mr. Noble adds. “We recently added Charlotte’s Web, a leading U.S. hemp CBD producer, after U.S. hemp legalization.
“Not all of these companies will be successful – there is a high likelihood of ruin for many. But those that end up winning in this sector will do extraordinarily well. And those that fail should be more than offset by the good returns of the leaders.”
Sponsor content feature produced by Randall Anthony Communications. The Globe’s editorial department was not involved in its creation.