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Time to Take a Few Puffs of This Marijuana ETF?

With impending cannabis legalization legislation on the horizon, Canadian marijuana companies have become all the rage for investors looking for explosive growth. Horizons Marijuana Life Sciences ETF  (TSX:HMMJ) experienced a false start out of the gate; however, shares of the prominent Canadian cannabis ETF have risen more than 18% over the past month, providing investors with an interesting bull case to invest in the overall sector in anticipation of growth rates, which appear to remain robust moving forward.

The marijuana industry in general is an interesting place to be invested in and is certainly proving to be a sector for thrill seekers and growth searchers alike. With federal Liberal promises to fully legalize and legislate marijuana by 2018 providing most of the steam for the recent bull rally in shares of nearly every marijuana producer in Canada, the largest producers in the country continue to cut production costs and increase margins and production levels in an attempt to meet demand for the green commodity, which is expected to be massive.

There’s tonnes to be excited about for investors looking to take a few puffs of this sector.

That said, significant risks remain for the cannabis industry as a whole that investors need to consider.

Cannabis producers are still in their infancy stage (as legal operations), and while many top industry experts have garnered years or decades of experience, it remains true that the underlying fundamentals of the distribution and retail channels required to get product to end consumers continues to be somewhat of a mystery.

Provincial government legislators have begun to release outlines of how marijuana will be distributed or sold in their respective jurisdictions. Preliminary indications are that regulations will differ significantly in each province, with a host of differences in terms of minimum age, retail channels (government-owned stores vs. private dispensaries), taxation levels, as well as inter-provincial considerations in terms of distribution.

With a preliminary tax of $1 expected to be placed on each gram sold (typically, an average gram of marijuana sells in the $6-10 range depending on province), questions as to whether additional taxes will be levied on marijuana remain a risk for areas with lower average retail prices. As those in the liquor industry know, dealing with government purchasing and distribution models can be frustrating, and cannabis producers used to dealing with direct-to-consumer models may be forced to change their business models in key markets with established government-run distribution models such as Ontario, Quebec, and B.C. (three of the largest markets in Canada).

Bottom line

The mix of risk and reward is likely to remain positive in the months leading up to legislation, and the bull case for investing in a marijuana ETF remains attractive. That said, I anticipate some significant pullback post-legalization when the hype dies down and investors begin their search for profitability alongside growth, resulting in the potential for short-term gains and long-term pain for investors over time. I guess we’ll wait and see.

Stay Foolish, my friends.

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Fool contributor Chris MacDonald has no position in any stocks mentioned in this article.

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