Like all new investment themes, medicinal cannabis – which uses cannabidiol or CBD rather than the psychoactive THC component of the cannabis sativa plant – has had its highs and lows in the early stages of its development.

Over the past five years, shares in CBD companies have been through two distinct waves of interest. Today, with consumers showing a more educated approach to CBD and high street retailers stocking dozens of products on their shelves, we believe the medicinal cannabis sector is due a new upsurge in interest.

The big catalyst for the sector is likely to be new US legislation, which would not only legitimise cannabis-related businesses but give the green light to huge multinational consumer goods firms to get into the market.

POTTED HISTORY

The first CBD stocks, such as Canopy Growth, were listed in Canada and were initially seen as something of a curiosity. However, when Canada legalized the sale of cannabis and regulated its use in 2018 there was a mad dash to own them, sending prices soaring. Canopy Growth, which had traded below C$10 for the best part of four years, was suddenly valued at more than C$70 per share.

The euphoria lasted about six months, after which investors lost interest and drifted away, until earlier this year traders on the Reddit forum, looking to ramp up stocks and inflict losses on hedge funds, spurred a second wave of buying.

Once again, Canopy Growth was in focus, its shares surging from below C$20 to an intraday high above C$70, while in the UK shares of Chill Brands (CHLL) jumped from around 60p to more than 100p and shares of MGC Pharmaceuticals (MXC) leapt from just above 2p to almost 8p in the excitement.

Fortuitously, just as the enthusiasm reached fever pitch two new UK CBD firms came to market, Cellular Goods (CBX) and Kanabo (KNB), both enjoying strong support on their debuts.

With nothing more than day-traders to support them, however, CBD stocks fell on hard times and most were trading at their year lows until a few weeks ago.

CAUTION

CBD remains an immature market with considerable uncertainties over its trajectory and its association with an illegal drug brings its own complications. Investors should ensure they are fully informed on the risks before they get involved.

CHANGING PERCEPTIONS

While shifting social attitudes are driving consumer interest in CBD products, the Government’s position is confusing to many. Despite being decriminalized in many other countries, cannabis itself is still a Class B drug in the UK, meaning it is illegal to grow, possess, distribute or sell it without a license. Penalties can be up to 14 years in prison and an unlimited fine.

Therefore, for some investors, even licensed CBD companies are in the ‘sin bin’ alongside arms makers, online betting firms and the adult entertainment industry.

Moreover, CBD products can’t be marketed as healthcare products according to rules laid down by the MHRA (Medicine and Healthcare products Regulatory Agency). Instead, they have to be pitched as food supplements.

Even so, there are believed to be between six and seven million users of cannabinoid products in the UK, and the potential market could be as big as £1 billion within a few years.

‘There’s been a massive increase in interest’, said Purity Hemp chief executive Michael Walker in a recent interview. ‘This will be like toothpaste. It will be like an aspirin in your cupboard’.

GROWING DEMAND

If investors are unsure about the merits of CBD, consumers are already sold on it as a remedy to help with their sleep, mood, pain and inflammation. Also, its anti-oxidant properties have potential benefits for skincare, which is an enormous market.

Love Hemp Group (LIFE:AQSE), which owns the Love Hemp brand, and start-up Cannaray, which is planning a UK or US listing in the near future, have both recently launched high-profile TV advertising campaigns fronted by well-known personalities.

Supermarket chain Asda has just signed a deal with wellness group Yooma (YOOM:AQSE) to stock 17 of its subsidiary Vitality CBD’s products in over 300 of its stores alongside other CBD ranges.

Health food and sports nutrition retailer Holland & Barrett stocks no fewer than 118 CBD products, from oils and capsules to skincare products and food and drink.

Among its hottest products are its own-brand CBD lip balm, muscle balm and serum, Cheerful Buddha CBD coffee, CBD-infused Vita Coco sparkling lemon cardamom drink and Almighty Foods raw CBD chocolate.

Even seemingly-staid Boots has a range of 71 CBD products, from calming oils and balms to mouth sprays and gummies. As the firm says, however, while there are many claims about the effects of CBD on health and wellbeing, ‘the scientific evidence remains a little sketchy’.

A MEDICAL FIRST

Neil Mahapatra, chairman of Oxford Cannabinoid Technologies (OCTP), which joined the UK market in May this year, aims to challenge that view.

Mahapatra believes the global market for cannabinoid products to treat pain is in the region of £42 billion per year, and OCT, which counts FTSE 100 stalwart Imperial Brands (IMB) among its major shareholders, aims to test four CBD-based drugs to treat neuropathic pain with the hope of taking two through clinical trials and on to commercialisation.

Most CBD products on the market can’t be approved as a licensed medicine because they don’t have clinical data, whereas by putting its drug candidates through trials for specific pain indications OCT hopes to gain regulatory approval, meaning doctors can prescribe them and insurance companies can reimburse them.

U.S. THE GAME-CHANGER

While Canada, which for both the industry and governments worldwide was the ‘test case’ for deregulation, has been a huge success in terms of the adoption of CBD and medicinal cannabis, the great prize is south of the border.

In September, the House of Representatives passed the SAFE (Secure And Fair Enforcement) Banking Act which means the proceeds from the sale of products by legitimate cannabis-related businesses are no longer considered unlawful, and banks can no longer be penalized for providing banking services to legitimate cannabis-related businesses.

This is a huge step towards legitimising the CBD industry, and assuming it passes through the Senate, is signed off by the president and becomes law, it could open up the gigantic US market.

A bi-partisan group of 24 governors, including one from Senate majority leader Chuck Schumer’s home state of New York, is calling on the Senate to pass the SAFE Act by the end of this year as Republicans who have typically been anti- anything to do with cannabis have realized they can raise more money from taxes on its legitimate sale than they can on alcohol sales.

In Virginia, traditionally one of the most conservative US states, Republican lawmakers are even talking about legalising the sale of cannabis for recreational use when the party takes control of the House and the governor’s office next year.

As well as the SAFE act there is the MORE (Marijuana Opportunity Reinvestment and Expungement) Act, which is currently before the house. This act de-criminialises marijuana by taking it off the list of controlled substances, and recommends an excise tax on cannabis-related products made in the US or imported

More controversially, it eliminates penalties for anyone who manufactures, possesses or distributes marijuana, and it establishes a process to have past convictions expunged and sentences reviewed.

However, many in the industry believe if the MORE Act becomes law it will open the floodgates for global consumer goods companies, who have so far held back from selling their own CBD products due to the potential for reputational risk and negative feedback from investors, to plunge headlong into the market.

HOW TO PLAY THE CBD THEME

Clearly there is plenty of uncertainty and risk in this market and investing in these stocks will not be for everyone.

For UK investors interested in playing the theme the simplest way is through one of two exchange-traded funds.

The Medical Cannabis and Wellness ETF (CBDX) provides ‘targeted exposure to a new and growing industry of companies engaged in the production and associated services and products in the medical cannabis industry’.

It has $38 million of assets, is priced in dollars, has a broad spread of holdings with 41 investments and a 0.8% ongoing charge ratio.

The Rize Medical Cannabis & Life Science ETF (FLWG) is a similar size with $41 million of assets but is priced in sterling, has 29 holdings and a 0.65% ongoing charge ratio.

In terms of individual stocks, there is no shortage of options but given the ‘sameness’ of many of the CBD products on the market so far we believe investors should choose a CBD company which is itself differentiated.

Oxford Cannabinoid

Technologies (OCTP)

Price: 1.9p – Market cap: £18.5 million

OCT has clearly set itself apart from the crowd by focusing on developing regulated drugs for the treatment of pain. The company pitches itself as ‘the new GW’ after GW Pharmaceuticals, the pioneering producer of therapeutic cannabinoid products which was acquired by US firm Jazz Pharmaceuticals earlier this year for a staggering $7.6 billion.

However, GW Pharma had invested over £1.3 billion in research and development and put more than 60 candidate drugs through Phase 2 and Phase 3 trials against OCT’s target of two drugs, so it has a long way to go to live up to the claim and there is execution risk.

Cellular Goods (CBX)

Price: 10.3p – Market cap: £52 million

Another firm which is clearly differentiated is Cellular Goods, which rather than extracting cannabinoids from actual plants makes them in a laboratory.

Using biosynthesis, it produces large quantities of high-purity cannabinoids identical to those from plants without pesticides, pathogens, heavy metals and other compounds which can be present in farmed cannabis.

The process only uses a tiny fraction of the water needed to produce cannabis plants on a commercial scale, making its product more sustainable. It is also a much quicker process, typically taking 10 days instead of the 90 days it takes to grow cannabis plants.

The firm expects to launch its first range of premium skincare and supplement products in early December, supported by digital advertising and content marketing.

Disclaimer: The author (Ian Conway) owns shares in Cellular Goods

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