With the explosive growth in medical and recreational marijuana in America, a slew of emerging companies have come public and brought new interest by investors in recent years. With there being an exchange traded fund (ETF) for just about every single investment strategy, it might have just been a matter of time before a true marijuana ETF came to market.

Back in 2014, 24/7 Wall St. pondered what a marijuana ETF might actually look like. Now the markets are getting their first real look at an ETF tacking the medical marijuana sector. The Horizons Medical Marijuana Life Sciences ETF began trading on the Toronto Stock Exchange on April 5, 2017. This was said to be the first ETF that will have exposure to North American companies that operate in the medical marijuana bioengineering and production fields.

There is absolutely no denial that a marijuana ETF will generate some investor interest. While this may be a first for true ETF investors, unfortunately many U.S. investors might have a very hard time investing in this ETF. There are some serious barriers and risks that investors need at least consider before jumping blindly into the strategy of investing in marijuana.

For starters, the Trump administration’s initial communication to the public indicated to expect greater enforcement of marijuana laws. Then there is the issue that very few such companies are large enough and have other characteristics that would qualify for a true Nasdaq or New York Stock Exchange listing, and that may mean companies with managers who are not business people or with too few employees or directors. Also, many U.S. investors do not have easy access to buy stocks in OTC Bulletin Board and Pink Sheets listings without filling out additional approval forms in their brokerage accounts.

Perhaps the largest barrier of them all for U.S. investors to buy into the Horizons Medical Marijuana Life Sciences ETF is that it trades in Canada. Having an ETF structure is meant to solve the hurdle of not being real baskets to buy in the marijuana sector, but having it not listed in the United States will keep many U.S. investors who are interested from jumping in.

There are some additional real issues surrounding the Horizons Medical Marijuana Life Sciences ETF. The management fee is listed as 0.75%, plus applicable sales taxes (and exit taxes) in Canada, which is higher than many ETF investors might want to pay. With this ETF effort targeting only medical marijuana, it might be missing out on many of the immediate growth opportunities. Then again, this nonrecreational targeting might insulate it from many federal risks if enforcement actions actually get more strict.

Another serious risk here is that the medical marijuana ETF, while it had only $26 million (Canadian dollars) in the fund as of April 6, could theoretically become larger (perhaps much larger) than some of the underlying stock holdings. The North American Medical Marijuana Index provided by Solactive, which is cited in the prospectus, is supposed to have companies with a minimum market cap over C$75 million and have an average trading volume of 75,000 shares per day (and a trading value of C$250,000 per day).

Even if the ETF doesn’t get larger than the holdings due to a maximum of 10% weighting at each rebalance date, it could easily become the largest shareholder in many of the underlying companies listed in the holdings (see below). If it owns too high a stake, it could be forced into additional SEC registrations or could become either locked into a position or unable to easily move in and out of a position as market caps change.

Another issue is that some of the holdings are small enough that the underlying trading volume could make these too volatile for comfort, and it could allow some otherwise small cap stocks to have close to the same weighting as the larger constituents.

Yet another issue is that some of the top companies are only partly exposed as beneficiaries of the legalized marijuana trade. And the cap-weighting and daily volatility could exacerbate normal tracking error risks, which all ETFs have, meaning that the ETF or index doesn’t truly reflect the real moves made by the shares of the underlying companies. This ETFs Investment Objective said:

Horizons Medical Marijuana Life Sciences ETF seeks to replicate, to the extent possible, the performance of the North American Medical Marijuana Index, net of expenses. The North American Medical Marijuana Index is designed to provide exposure to the performance of a basket of North American publicly listed life sciences companies with significant business activities in the marijuana industry.

The initial breakdown of holdings in the Horizons Medical Marijuana Life Sciences ETF has many companies that are small cap and that are also listed in Canada for their primary exchanges. The holdings were initially listed with weightings, and the national corporate base, as follows:

• Canopy Growth, 9.95% (Canada)
• Scotts Miracle-Gro Co. (NYSE: SMG), 9.95% (U.S.)
• INSYS Therapeutics Inc. (NASDAQ: INSY), 9.95% (U.S.)
• Aurora Cannabis, 9.95% (Canada)
• Aphria, 9.95% (Canada)
• GW Pharmaceuticals PLC (NASDAQ: GWPH), 9.89% (U.K.)
• Zynerba Pharmaceuticals Inc. (NASDAQ: ZYNE), 8.45% (U.S.)
• Cronos Group, 8.02% (Canada)
• CanniMed Therapeutics, 5.56% (Canada)
• OrganiGram Holdings, 5.38% (Canada)
• Supreme Pharmaceuticals, 4.70% (Canada)
• Emblem, 3.79% (Canada)
• Emerald Health Therapeutics, 2.31% (Canada)
• ICC International Cannabis, 2.10% (Canada)

Another issue to consider here is that some investors might not want to openly show that they hold marijuana investments of any sort. After all, some people have political, religious or employment considerations over how it might look if they were an open investor in the marijuana (legal, medical or what-not) industry. It could be one of those questions years ahead that may not matter or at all, or it could be a reputation killer — and we won’t know that for many years.

Here are some additional sources of legalized marijuana investing:

• The 4:20 Investor
• Marijuana Stocks
• Motif Investing for Legal Marijuana
• Cannabis Business Executive

One last consideration is that many key marijuana stocks have traded down handily from their highs. Some of that may be due to political and legal risk, and some may be profit taking followed by investors looking at a flight to quality.

The arrival of a marijuana ETF of any kind is unlocking access to investors. And it is no secret that sales in the marijuana industry have risen handily in recent years as more and more states come on line, and with many economists and investors calling for exponential marijuana industry growth in the years ahead.

Stay tuned.

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