Cannabis stocks took it on the chin for more than two months. Now they’re in a holding pattern. Here’s why the next move may be up.
One of the many adages about investing in stocks says, “Never sell a dull market short.” The theory, basically, is that if the market isn’t going up or down, it’s likely to go up, given that that’s the long-term trend of the market and that a “dull” market is eventually likely to be followed by an exciting market.
Well, the marijuana sector has been “dull” for only a few weeks, but before that the sector had a broad decline that pulled the marijuana index down 50% in just 10 weeks, so it’s logical that the next major move in cannabis stocks will be up.
Additionally, the broad market is still acting well (despite Tuesday’s sell-off), with major indexes hitting record highs frequently, so it makes sense that the marijuana sector should turn around and rejoin the party, eventually taking the industry leaders out to new highs.
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However … I learned long ago that you can’t tell the market what it should do; all you can do is measure the probabilities of what it might do and then invest accordingly, all while managing your risk properly.
As a marijuana investor, here’s how you should invest in cannabis stocks going forward.
How to Find the Best Cannabis Stocks
In my Cabot Marijuana Investor advisory, I use the time-tested Cabot strategy of investing in growth stocks; ideally you want a stock with a good chart (going up), as well as a company with healthy fundamentals (growing revenues and earnings) and a story that says further great growth is likely. Whenever there’s a disagreement, the chart wins, so given that virtually all of the leading marijuana companies have very rapid revenue growth today and the prospect for much more in the future, the charts are a major focus of mine today.
After stock selection, market timing is critical. Ideally, you’re heavily invested in the market leaders when the market trend is up (thus gaining more than the market on the way up), and you hold a substantial amount of cash when the market trend is down (thus losing less than the market on the way down). Obviously, if you gain more on the way up and lose less on the way down, you can easily outperform the market (or in this case, the sector), and that’s what we’ve done by a wide margin in my Cabot Marijuana Investor advisory (up 440% vs 66%) since its inception in August 2017.
When investing in one industry, however, especially a young, fast-growing one like marijuana, some adjustments to the system are needed. First, instead of looking at the broad market to guide our market timing, we look at the Marijuana Index. Doing this has allowed us to shift substantially to cash very near the sector’s major tops (most recently on February 10, when I shifted the portfolio from fully invested to 42% in cash). More recently, just three weeks ago, the sector action told me to put half our cash back in. It had grown to 64%, so now it’s down to 32%.
Additionally, because this is a sector with a fairly small number of true industry leaders, my strategy has been to hold core positions of the leaders through thick and thin, reducing exposure in market downtrends, and then increasing exposure to the top prospects (as determined mainly by chart action) as the trend turns up, while slowly rotating out of the weakest performers and pivoting to high-potential newcomers.
Finally, as you apply this strategy to your own portfolio, you should own stocks outside the marijuana sector as well, because diversification is a key investment strategy, one I trumpet repeatedly in my other advisory, Cabot Stock of the Week. But you should understand the strategy, and apply it as you deem appropriate for your own portfolio.
Editor’s Note: This post was excerpted from a recent issue of Cabot Marijuana Investor. To read more, click here.
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