Cannabis: The New Consumer Staple

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Bay Area Kid
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Summary

  • Like food, alcohol and tobacco, cannabis fits the definition of a consumer staple.
  • Canadian legal recreational cannabis sales are starting on October 17, 2018, while the US Congress is making significant advances toward legalization.
  • I would recommend CannTrust Holdings in the Canadian Market and soon-to-IPO Acreage Holdings in the US.

Consumer Staples

According to Investopedia, a consumer staple is defined thus:
"...Consumer staples are goods that people are unable or unwilling to cut out of their budgets regardless of their financial situation... People tend to demand consumer staples at a relatively constant level, regardless of their price."

Essentially, a consumer staple has low elasticity of demand (a change in price has very little effect on the demand for the product), is non-cyclical (demand is effected very little by the state of the economy) and is used by both the rich and the poor. Common consumer staples include food, alcohol, tobacco and now, cannabis.

Perhaps due to its continued status as an illegal product, cannabis still falls behind the use rate of alcohol and tobacco among US adults. While 11% of American adults use cannabis on a monthly basis, 17% of American adults smoke cigarettes and a whopping 73% of American adults regularly consume alcohol. I believe that once cannabis is fully legalized, negative stigmas are dispelled and more uses for the drug are found, the number of Americans who admit to using it will go up, although it will likely still trail far behind alcohol use rates.

So what is the big deal about a product being a consumer staple? Quite a lot actually. According to Investopedia, the consumer staple sector has had greater returns than all other sectors but one since 1962. Since March, 2008 the consumer staple sector has seen gains of 9.51% annually, compared to 8.79% for the market as a whole. The sector also outperformed the market during the last 3 recessions.

Don't take it from me about the importance of including consumer staples in your portfolio. Instead, take it from the Oracle of Omaha, Warren Buffet. For years, two of Berkshire Hathaway's (BRK.A) largest positions have been Coca-Cola (KO) and Kraft-Heinz (KHC), whose products are the epitome of consumer staples.

Legalization Legislation

Unless you've been hiding under a rock, you've likely heard that Canada is about to become the first major country (no disrespect to Uruguay) to legalize recreational cannabis use nationwide. After months of deliberation and alterations, the Canadian legislature passed Bill C45 on June 19, paving the way for legal recreational sales across the country, which are scheduled to begin on October 17.

Meanwhile, here in the US, Congress is finally making strides to end federal cannabis prohibition. The STATES Act, introduced by Senators Elizabeth Warren (D-MA) and Cory Gardner (R-CO), is currently making its way through the Senate. The bill would effectively end the federal prohibition of cannabis in the United States by amending the Controlled Substances Act to prohibit enforcing federal cannabis laws in states where it is legal. In an effort to foster bipartisan support, Warren and Gardner have been bringing co-sponsors on in pairs, one Democrat and one Republican. Most recently, the bill gained the support of Senator Dianne Feinstein (D-CA) the ranking member of the House Judiciary Committee, who actually opposed the 2016 measure to legalize cannabis in California.

After meeting with Gardner, President Trump also expressed his support for the bill. When asked about it, he responded:

"I know exactly what he’s doing. We’re looking at it. But I probably will end up supporting that, yes.”

Separately, leading Democratic Senator Chuck Schumer (D-NY) introduced a similar bill called the Marijuana Freedom and Opportunity Act, which would remove cannabis from the list of controlled substances. The bill is co-sponsored by Senators Bernie Sanders (I-VT), Tim Kaine (D-VA) and Tammy Duckworth (D-IL).

Yet another piece of legislation advancing cannabis toward full legalization is the Medical Cannabis Research Act, which would allow for an increased amount of cannabis to be grown for research purposes,was passed by the House Judiciary Committee on September 13.

Finally, not to be ignored, cannabis' lesser-known cousin, hemp, is also feeling the legislative love. Introduced by Senate Majority Leader Mitch McConnell (R-KY) and included in the farm bill, the legislation would remove hemp from the list of Controlled Substances and legalize it as an agricultural commodity. The bill has bipartisan support, with Senators Ron Wyden (D-OR), Jeff Merkley (D-OR) and Rand Paul (R-KY) serving as co-sponsors.

My Cannabis Picks

While I own a number of cannabis companies in my own portfolio, which I most recently wrote about in my article The BAK Portfolio: Canadian Weed Is Legal And The Green Rush Has Begun, most companies are currently overvalued after the recent run-up. As such, finding good value can be difficult.

As I wrote about in my article CannTrust Holdings: Profitable Weed At An Attractive Valuation, I believe that CannTrust Holdings (CNTTF) provides investors with the most value among the Canadian cannabis companies. The company is expanding rapidly, is already profitable, has numerous suppler agreements in place and is available for a fraction of the price of competitors like Canopy Growth (NASDAQ:CGC), Aurora (ACBFF) and Aphria (APHQF).

For the United States, my pick for the best play in the country is not currently available. Acreage Holdings, the largest cannabis company in the US, is due to IPO sometime this fall, perhaps as soon as late October. Since the company is currently privately held, there is not much info available on revenues, but we do know that the company is currently operating in 14 states, more than any other company. We also know that the company recently brought on a high-profile Director in former Speaker of the House John Boehner, a Republican who used to be a staunch opponent of cannabis legalization.

Conclusion

The introduction of a new consumer staple to the market is a once-in-a-generation type of event. In the not too distant future, I envision the leading cannabis companies being major holdings of institutional investors in the same way that food, alcohol and tobacco stocks are today. While most of the Canadian companies are currently overvalued, CannTrust is available at a much lower valuation. Meanwhile, Acreage Holdings is due to IPO in the fall and presents a great opportunity to establish a position in the burgeoning legal US cannabis industry.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

This article was written by

Bay Area Kid profile picture
2.1K Followers
I'm a Marine veteran, originally from the San Francisco Bay Area. I have a BS in Hospitality Management and an MBA, both from the University of Nevada, Las Vegas.

Disclosure: I am/we are long CGC, APHQF, ACBFF, CNTTF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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