Pot stocks, as measured by the New Cannabis Ventures Index, are suddenly red-hot, up 34% in the last month and 42% so far in 2024.
Of course, as subscribers to Cabot Cannabis Investor know, Chief Analyst Michael Brush has been beating those returns in his own portfolio and giving his subscribers an edge in the weed game. But even if you’re a passive investor in something like the Amplify Alternative Harvest ETF (MJ), you’re seeing gangbuster returns as the sector catches fire.
But what if you don’t have any exposure to pot stocks or have been burned by the sector in the past?
Trust me, you’re not alone. With MJ down more than 87% in the last five years, a lot of investors have seen their cannabis stocks go up in smoke (I hope you see what I’m doing here).
It’s fair to question whether pot stocks are really and truly turning around or if this is yet another false start from a sector that’s seen more than its fair share.
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On the bullish side of things, this recent rally has been sparked by comments from Vice President Kamala Harris about the absurdity of classifying marijuana alongside far more dangerous drugs. Those comments, coupled with meaningful action on rescheduling by the Department of Health and Human Services (HHS), raise the possibility that we could see rescheduling in the current administration.
On top of that, there are significant polling and cultural trends that point to growing acceptance of marijuana on both sides of the aisle, something that Cabot Cannabis Investor keeps close tabs on. As frustrating as it may be for apolitical investors, legal weed (and removing the hurdles weed companies face while doing business) is ultimately a political question.
So, with meaningful catalysts all around us (and acknowledging the long-term sector returns), let’s talk about a few ways to add exposure to the marijuana sector without diving in head-first.
One simple way to add pot stocks to your portfolio is through an ETF like the aforementioned MJ or Michael’s preferred marijuana ETF, the AdvisorShares Pure U.S. Cannabis ETF (MSOS).
Both funds have ample trading volume and offer broad exposure to the sector while mitigating the one-off risks of individual pot stocks.
The funds also have reasonable expense ratios of around three-quarters of a percent, which is higher than many broad-based passive funds, but not abnormal for a specialty fund.
Either one is a solid option to add marijuana to your portfolio, especially if you’re looking at an intermediate- or long-term position.
For short-term or momentum investors, there are lower-cost ways to add comparable portfolio exposure to take advantage of the recent rally using options.
2 Options Plays on Pot Stocks
To take advantage of the liquidity and diversification mentioned above, both options trades will use MSOS as the underlying ETF.
The first we’ll look at is a relatively short-term call, the May 17, 2024, 9 call on MSOS.
As of the time of writing, MSOS is trading at 10.80 and these calls are trading for about $2.70 ($270 per contract).
The reason for this call and expiration is twofold. One, the 9 strike has ample open interest, which translates to higher volume, more liquidity, and generally lower bid-ask spreads (currently $2.60 to $2.75).
Two, this call gets you past 4/20, a date that many enthusiasts are no doubt familiar with, but one that has also been cited as a potential date for further regulatory action (if the current administration wants to reschedule before election day, the DEA needs to propose rules before early summer).
The contract is trading with about $1.80 of intrinsic value, meaning that you’d pay ~$0.90 of time and volatility premium. This puts the breakeven for MSOS at 11.70, about 8% above where it’s currently trading. But after that, you’d see dollar-for-dollar gains in the contract. And your capital commitment is only 25% of what you’d spend to buy the ETF outright.
If you’re looking for a longer runway (and want to get past election day) you could consider the November 15, 2024, 10 calls.
These calls have lower open interest than the May calls but are the most heavily traded strike in that expiration cycle.
They’re currently trading for about $3.60 ($3.50 bid, $3.70 ask), and are a point higher than our May calls, so you’re paying a higher premium to buy an additional six months of life on your contract.
Your breakeven on these calls would be 13.60 for MSOS, which is 26% higher than it’s trading today.
Like the shorter-dated calls, you’d gain dollar-for-dollar appreciation above your breakeven, but the lion’s share of the contract price is just buying time.
Bringing politics back into the equation (unfortunately), this contract offers potential upside should rescheduling efforts fail to gain ground in the summer months but look more like a possibility after the elections.
Of course, if rescheduling falls apart over the summer, MSOS is likely to decline significantly, which would offer a much more attractive entry price in the intervening months before the election.
For a short-term play, I like the May calls. If you’re long-term bullish and think that not only is rescheduling on the table now but that full-blown legalization could be on the table after the elections, I think you can make a case for the November calls as well.
That said, the November calls are a little rich for my blood (premium-wise) and you’d probably get more bang for your buck buying a combination of the underlying ETF for long-term exposure and the May calls for the short-term momentum in pot stocks.
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