Raymond James explains how to play the Democrat pot stock rally

Start your engines, folks, Canadian cannabis stocks are about to take off. That’s the word from Raymond James analyst Rahul Sarugaser, who reported on the sector Wednesday, saying pot stocks will rally on Democratic wins in the Georgia senate races.

Cannabis stocks are up a bundle on Wednesday as the markets react to two runoff elections for US Senate seats in the state of Georgia, where voters took to the polls on Tuesday. So far, Democratic candidate Rev. Raphael Warnock has been declared victor over Republican Sen. Kelly Loeffler while in the other race Sen. Republican David Perdue is trailing Democrat Jon Ossoff.

With two Democratic wins, the US Senate would be split 50-50, with a tie-breaking vote allowed to the US Vice-President, Kamala Harris, effectively giving the Democrats control of the Senate. That would be good news for cannabis companies, says Sarugaser.

“With a 2x Democratic win in the Georgia senate runoff elections looking likely — putting all three U.S. houses in Democratic hands, who the market assumes would drive expedited federal legalization of cannabis — we expect to see sustained, material strength in Canadian cannabis stocks, as we had predicted in our Dec. 1 and Dec. 4 cannabis industry notes,” said Sarugaser in his update to clients.

Sarugaser said both Canadian companies with a push into the US market and existing US cannabis companies will see a boost.

“A Democratic win would imply continued positive sentiment toward federal support of cannabis reform, and, we expect, would drive further strength among Canadian cannabis stocks, especially those with clear paths to U.S. market entry (e.g. Village Farms and Canopy Growth),” Sarugaser wrote.

“We believe that a GOP win would be favourable to the U.S. MSOs, which, at least in the short-term, benefit from sequestered State laws that offer limited licenses to operate. We’ve now passed this pivot point and we believe Canadian cannabis stocks are in for a significant run,” he said.

The Horizons Marijuana Life Sciences ETF (Horizons Marijuana Life Sciences ETF TSX:HMMJ), which tracks the sector as a whole, is seeing strong gains on Wednesday, a welcome change of fortune after the stock dropped ten per cent in 2020, which was after falling 43 per cent in 2019. The back end of 2020 was better for cannabis, with the markets seemingly responding to a Democrat win in November’s presidential race along with legislative headway being made in the US. The Senate wins seem to have added more fuel to the fire.

In Sarugaser’s case, he has chosen Vancouver-based vegetable, cannabis and hemp grower Village Farms (Village Farms Stock Quote, Chart, News, Analysts TSX:VFF) as his best pick for playing the rally. Village Farms has over nine million sq ft of greenhouse in North America, with a produce business in the US and Canada and through partner growers in Mexico, cannabis production and distribution in Canada through now 100-per-cent owned subsidiary Pure Sunfarms and hemp and hemp-derived CBD production and distribution in the US.

Sarugaser said VFF should be currently favoured “due to the company’s strong Canadian market position and its roughly six million sq ft of greenhouse in Texas, a massive turnkey option on the US.”

“As it stands today, no interstate commerce of THC-containing cannabis is permitted in the U.S., so U.S. MSOs have needed to set up grow operations in each state, requiring a relatively small footprint in each. Should federal legalization precipitate in the U.S. that enables interstate commerce of cannabis, today’s inherently inefficient supply architecture would be quickly outmoded by centralized, large-scale, low-cost sources of cannabis, providing centralized distribution. This is exactly VFF’s sweet spot, and this is one of the key missing pieces in CGC’s puzzle that is the U.S. cannabis sector,” said Sarugaser in a December 24 report.

Sarugaser listed Cronos Group (Cronos Group Stock Quote, Chart, News, Analysts CRON:NASDAQ) as his next best option for the current rally, saying CRON is to be favoured “due to the company’s significant equity partnership with CPG giant Altria Group that has 250,000 c-stores at its disposal for potential distribution, and its present-day inroads on the U.S. market via multiple CBD brands.”

On regulatory developments in the United States, early in December the US House of Representatives passed the MORE Act with bipartisan support. The Act proposes to remove cannabis from the US list of scheduled substances under the Controlled Substances Act, to apply a federal tax to cannabis sales and to effectively decriminalize cannabis, all of which would be likely beneficial for cannabis companies in the US.

The US Senate is expected to vote on the MORE Act early in 2021, where Democratic control could have an effect, according to Sarugaser.

“We estimate the MORE Act will receive a Senate vote around February-March 2021, where its likelihood of success remains low, but certainly would be impacted by whether the Dems or the GOP control the Senate,” Sarugaser wrote in a December 4 brief. “Regardless the Senate outcome, we believe the MORE Act’s success in the House today engenders good momentum for further cannabis reform, positioning this measure and others like it well for future congressional consideration.”

“While the next U.S. Congress seems unlikely to Federally legalize interstate commerce of cannabis near-term, there are several cannabis industry-supportive Acts in play—e.g. SAFE Banking Act, STATES Act—that, if passed, could provide solid foundations for U.S. MSOs’ business expansion and, potentially, that of the Canadian LPs,” he said.