Here’s Why Marijuana Stock Investors Shouldn’t Be Worried

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It’s no secret – investing in marijuana stocks is risky business.

The biggest risk lately is all the talk of a potential cannabis supply glut in Canada; the result of marijuana growers producing supply far exceeding the demands of Canada’s market.

A supply glut for marijuana stocks is basic economics: when supply exceeds demand, prices plummet.  

You may recall from economics class in high school or college learning the curves of supply and demand demonstrate a product’s dramatic drop in price as supply overtakes demand. Were a substantial cannabis supply glut to occur, prices would inevitably plunge. It’s understandable to find investors who have already vested dollars in marijuana stocks or are considering weed stocks to invest in now would find this proposition unnerving.

However, it may be too soon for marijuana stocks investors to be afraid; but first, the scary news.

Realistically, supply glut within Canada’s marijuana market appears inevitable – a worrisome proposition for investors in marijuana stocks in Canada.

One gathers a reasonable picture of this glut situation from a glance at what the five major cannabis growers per market cap – Canopy Growth (NASDAQOTH:TWMJF), Aurora Cannabis (NASDAQOTH:ACBFF), Aphria (NASDAQOTH:APHQF), MedReleaf (NASDAQOTH:MEDFF), and Cronos Group (NASDAQ:CRON) – have projected as their annual production capacities.

Projected annual production capacity of top 5 Canadian marijuana growers
Data sources: Company news releases and investor presentations; Deloitte; Marijuana Policy Group. Chart by Keith Speights of The Motley Fool.

Between these five growers alone, cannabis supply should be slightly more than 1.5 million kg per year, within a few years. This is potentially bad news, however, as this amount of supply far exceeds the projected demand for both Canada’s medical and recreational cannabis markets, pending the result of legalization efforts regarding marijuana for adult use in Canada.

According to estimates by Deloitte firm, Canada’s annual domestic demand for marijuana should be around 600,000 kg. The country’s Parliamentary Budget Officer projects a slightly higher annual demand of 650,000 kg. The most optimistic projection for the Canadian market – roughly 900,000 kg per year – came from Marijuana Policy Group based in Denver.

Still, even with the highest projection, the production capacity of these top five growers will far surpass Canada’s market demands. This is the case without adding in the capacity contributions from smaller cannabis growers which now include Health Canada’s recent announcement of micro-cultivation licenses. While it may take a year or two until a few of these companies achieve their targeted production capacity, this is a small comfort for marijuana stock investors.

Investors looking for marijuana stocks to buy can take comfort in the bigger picture: The global market for medical marijuana in legalized countries far exceeds that of the Canadian market.  

Projected global cannabis market demand and top 5 growers' production capacity chart
Data sources: Company news releases and investor presentations; Aurora Cannabis. Chart by Keith Speights of The Motley Fool.

An examination of the chart above reveals, again, the combined production capacity for Canada’s top five marijuana growers on the far left – a little above 1.5 million kg annually – and, in the middle, the lowest estimate of Canada’s cannabis market demand – 600,000 kg annually. The far right column is where investors can find encouragement. The implied global demand for cannabis in 22 countries with active laws for medical marijuana, based on population – slightly above 4 million kg annually – far surpasses the production capacity of the top five Canadian growers.

Among these 22 countries, the largest medical marijuana market is Germany. This is precisely why growers like Aurora Cannabis and Canopy Growth, among others, have worked hard to establish a presence in the country’s market through strategic partnerships and acquisitions.

Once the implied demand of the remaining 21 countries are factored in, the combined production capacity projections for Canada’s top five growers comes into perspective: as it turns out, it meets less than a third of the potential cannabis demand in global markets.

But, there’s more encouraging news to consider.

In the near future, there may be an additional 14 countries, or more, potentially passing laws to permit use of or legalize cannabis for medical purposes. With the addition of these countries, the potential demand could increase by 3.8 kg per year, each year. As a side note, this projected total does not include the market with the largest potential of all: the United States.

Investors should not be too hasty to assume this means there is no cause for some concern with investments in marijuana stocks. 

The industry could still possibly experience periods of time where demand is less than supply. Most often, market forces don’t play out in a clean, linear line. Therefore, marijuana growers still might wind up increasing capacity far ahead of demand increases in a few countries with laws in place for legal medical marijuana.

Hurdles in Canada remain on the horizon before recreational marijuana is finally legalized. While the Canadian Senate passed a bill to legalize marijuana for recreational use to committee review several weeks ago, there may yet be political drama before it reaches final vote.

Clearly risks remain for investors in marijuana stocks to consider and a healthy dose of caution is advised; however, the prospect of an epic supply glut should be less scary considering the bigger global picture.

(For more information on the potential marijuana supply glut, read Will Canadian Recreational Laws Affect Marijuana Stocks?)

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