With the boom of cannabis stocks in 2017 amid news of legalization in Canada and their subsequent fall from grace, you might think investors have learned a lesson.
Canopy Growth (TSX:WEED), the largest Canadian cannabis company, saw its share prices decline, and the business was doing so badly that it was forced to merge shares. Yet, Canopy Growth stock saw share prices soar by 100% between April 1 and April 30.
The surge in share prices shows many people are hopeful about Canadian marijuana stocks again. I will discuss what is happening and tell you why it might be a better idea to avoid the volatile stock instead.
The sudden rise
Canopy Growth, like many of its peers, saw a massive surge in share prices in April. The reason was simple: News came from across the border that might see marijuana being reclassified as a Schedule III substance in the United States. On the surface, it looks like great news. After being in the same category as drugs like heroin, the new classification might see it categorized the same as Tylenol.
If the reclassification comes through, it can open up a whole new market for Canopy Growth to capture across the border. The development might even see the company enjoy tax benefits, which can further help its business. Right now, Canopy Growth has a lot of expenses that it cannot write off, which other businesses can due to the classification of its primary product.
The problems
Leading up to cannabis becoming legalized in Canada, the entire industry saw a massive boom. Share prices went higher than anticipated, and it seemed that everybody with money to invest wanted to get on the bandwagon. The flow of investor money into these companies did not last too long after legalization finally happened.
Share price hikes due to so much interest from investors did not match the inherent value the underlying companies offered. Quarter after quarter, Canopy Growth failed to live up to the promise of being a highly profitable business. Even after legalization, companies in the cannabis industry faced several hurdles that made it difficult to compete with the illegal cannabis market.
Canopy Growth recently announced that it feels optimistic about the rescheduling announcement in the United States. The company also issued millions of shares to raise up to US$50 billion by 2026. If the company can raise the money, it can be beneficial for its entry as a major player in the U.S. cannabis market. However, the reclassification is not a done deal yet.
Foolish takeaway
We have already seen the impact of cannabis legalization in boosting share prices for Canopy Growth, only for them to go down again. Even if markets open up in the U.S., it will likely take a long time for it to be profitable for the business.
Cannabis companies burn a lot of cash and have yet to become profitable after several years of operating in a legalized domestic market. A new market will pose new challenges for these companies to overcome.
Additionally, there is the prospect of the development falling apart entirely. The Biden administration has announced the reclassification.
If Donald Trump gets back into power, he can undo the decision. As of this writing, Canopy Growth stock has already pulled back by almost 35% since its surge by the end of April. It might be wiser to avoid investing in its shares until there’s more clarity and an improvement in the industry.
