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Why Weed Stocks Only Trade OTC

By  +Follow January 16, 2014 9:00AM
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Traders who have followed marijuana stocks over the past several weeks have witnessed some of the most incredible, volatile trading in recent memory. Weed stocks rise and fall in the mid to high double digits on a daily basis, often with no particular pattern. A move of 10 percent is now considered uneventful, and with marijuana legislation changing by the day, there seems to be no end in sight to the madness.

Additionally, traders who have been watching weed stocks have likely noticed something else: none of them trade over major exchanges. They all trade on Over-The-Counter (OTC) exchanges, which are decentralized trading markets without a physical location. They are typically subject to fewer regulations and are, therefore, typically less transparent. Additionally, traders often pay a higher commission to buy a stock over an OTC market. They may also receive delayed pricing quotes.

So why exactly do marijuana stocks trade over these markets?

Lack of Revenue and Income

To be eligible for listing on the NASDAQ, stocks need to meet one of the following criteria:

A) $11 million in aggregate three-year pre-tax earnings

B) $27.5 million aggregate three-year cash flows plus $110 million in revenue plus $550 million market cap

C) Either market cap or revenue that far supersedes one of the above requirements

Because the legal marijuana industry is in its infancy, most cannabis companies have not yet turned a profit, and some may even be pre-revenue. As the legality of marijuana unfolds, many of these are still figuring out their business models, so most marijuana stocks are only eligible for listing on OTC markets.

Most are Penny Stocks

With legal marijuana in only two states, the marijuana market is still small compared to its potential. With a general lack of income and revenue, marijuana companies have small market caps. Cannabis Science (CBIS) is worth $81 million, Hemp Inc. (HEMP) is worth $13.5 million, GreeGro Technologies (GRNH) is worth $62 million, Terra Tech ($TRTC) is worth $40 million, and so on.

To provide investors and stakeholders with an adequate number of shares, the price per share of marijuana stocks needs to be small, typically below a dollar.  Because the NASDAQ and NYSE require a minimum $4 share price, in addition to meeting the above requirements, marijuana companies have no other option than OTC exchanges.

Legal Issues

In many ways, marijuana companies are better off in OTC markets. With so much oversight from state and federal governments, marijuana stocks have more freedom trading over-the-counter. Drug legalization is relatively uncharted territory, and the last thing pot stocks need is more oversight.

This isn’t to say that marijuana stocks will always trade OTC. When marijuana is legalized in more states, perhaps even nationally, some companies will emerge as marijuana leaders. At that point, more will be listed under major exchanges.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

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By  +Follow January 16, 2014 9:00AM



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