We have devoted several of our newsletters to discussing how important the upcoming elections are for the industry with respect to both several state legalizations as well as what might happen should the Senate change control. Today, we want to discuss the 2016 elections, their impact on the market at the time and how today’s set-up is quite different than four years ago.

In 2016, five states had ballot initiatives for adult-use legalization, and there were several medical initiatives as well. The most exciting adult-use initiatives were in the country’s largest state by population, California, and in what would be a significant legalization on the East Coast, Massachusetts. Maine was another eastern state voting, while Arizona and Nevada were the other western states. At the time, voters had previously approved legalization in Alaska, Colorado, Oregon and Washington., so this was an opportunity to double the number of states that had legalized. Medical cannabis initiatives were on the ballot in Florida, which had just missed the super-majority threshold of 60% for approval two years earlier, along with Arkansas and North Dakota. Of course, only Arizona ultimately failed to win voter approval.

Many readers may recall the excitement in the market ahead of the elections in 2016. From August 31st to November 2nd, just ahead of the election on November 8th, the New Cannabis Ventures Global Cannabis Stock Index rocketed higher by more than 162%:

This year, the market seemed to kick into rally mode recently on October 8th, after the VP debate, during which Kamala Harris discussed decriminalization. The market is up 13.5% so far in October, but this rally has been very different from 2016. First, September was a terrible month for the stocks, so this rally was later to get started. Second, the rally itself has paled in comparison to 2016 in terms of the percentage gains.

We think that there are several reasons that could explain the relative lack of interest. First, each additional state to legalize seems to become less important from a mathematical perspective. Colorado and Washington were exciting, as they were the first. Since then, the number doubled in 2014 (Alaska and Oregon) and then doubled again in 2016 to 8. 2018 added just two, Michigan and Vermont. There are now 11 legal states, including Illinois, so the number of states could increase by 36%. Evaluating it by looking at the population, the change would be even smaller at 20% more citizens with access to adult-use cannabis. The law of diminishing returns may be at play here as well as the novelty wearing off a bit.

Another reason for less of a market move may be that the market caps of the companies are much higher as well as the floats. Quite simply, it takes a lot more money to move the market today than four years ago.

These companies were very different in many ways from those that are in the index today. Almost all of them traded on the OTC, and many of them were sub-penny stocks. It was a speculative market that didn’t really reflect the real industry. Today, the index has no companies with a primary listing on the OTC. The only stocks that are in the index that trade on the OTC have primary listings in Canada. Several of the stocks in the index are listed on only the higher exchanges in the U.S. None of the companies in the index in 2016 were cannabis operators in the U.S. Today, MSOs represent the largest sub-sector at nearly 40%. The market has evolved.

Finally, the investor base has changed too. In 2016, the typical trader was a penny stock trader. Today, we see many institutions, including family offices, hedge fund, pension funds, ETFs and mutual funds, investing in the space. We think that a more sophisticated investor base along with the higher quality names prevents the kind of outsized move that took place in 2016, when the market was just for speculators, or later in late 2017 ahead of California legalizing.

While we are expecting that many traders will focus on the cannabis sector in the coming days ahead of the election and are excited by the potential for further short-term price appreciation, we believe that this is much more than a short-term trade, as we have discussed previously. Unlike in 2016, when there were few companies trading that could benefit from the outcome of the elections directly, there are many publicly traded operators in Arizona and New Jersey already. New Jersey’s initiative, which is expected to pass, could set off a wave of legalization on the East Coast through the legislative process. All of these states have robust participation already from publicly traded companies.

It’s always a challenge to predict stock prices in the short-term, but, given the muted run-up so far as well as the potential for a real catalyst (more legalization), we believe any sort of “sell-the-news” reaction could be short-lived. Of course, change in the control of the Senate, should that take place, has the potential to bring a lot of investors into the sector, as we discussed last week.

We see a lot of optionality with the market heading into the elections. Status quo seems to be working quite well, and this is likely the worst-case scenario. On the other hand, additional state legalizations, especially New Jersey, will provide more fuel for expansion, while a change in control of the Senate could throw fuel on the fire.

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