CRB Monitor Chart of the Month: CRBM Strength of Theme
James B. Francis, CFA
Chief Research Officer, CRB Monitor
This edition of the CRB Monitor Chart of the Month provides some insight into the work that we have been doing for the last 3 years, the calculation of a risk factor for cannabis equities that we call Strength of Theme (SOT). As we have written in the past, Cannabis is one of our latest emerging markets, and we call it that given it’s unique characteristics that make it on a different level of investability than typical equities. And cannabis will remain an emerging market until investors and financial service providers are unburdened by the fear that their participation in the space is illegal in the eyes of many regulators around the world.
Strength of Theme combines 10 sub-factors including sentiment, CRB Monitor risk tier, Pure Play designation, and universe members’ subsidiaries’ underlying license characteristics. The inputs to these factors are derived from publicly-available information; however, without the CRB Monitor securities database this data would be very difficult, if not impossible, to accumulate effectively and efficiently. The CRB Monitor database, now eight years in its evolution, is in a unique position to provide the data necessary to calculate relative Strength of Theme across the entire HERBAL index universe.
The SOT risk factor and sub-factors can be used to construct indexes, risk models and portfolios. The breadth of the CRBM universe (now 1,300 companies) and the depth of the data (information on more than 200,000 cannabis licenses) that are used to calculate individual factors speak to the effectiveness of the SOT.
It is important to note that the CRB Monitor Strength of Theme factor is not intended to be a calculation of alpha or expected return, but rather a measure of a company’s risk and overall exposure to the cannabis industry. When combined with measures of investability (e.g., market capitalization, ADV, etc.), Strength of Theme can be an effective tool in the construction of indexes and investment vehicles, particularly ETFs.
We have provided two interesting charts to demonstrate the value of Strength of Theme. On the one hand, (looking at the first chart below) the really great thing about this factor is it’s dispersion across the Tier 1 and Tier 2 universe. While identifying all of the companies on the chart would be exceedingly messy, it is easy to see that SOT makes for a nice balance to market cap weight – not necessarily as a source of outperformance but rather as a tool for risk management.
Looking at the second chart below, we can see how, in spite of the factor’s dispersion across the CRB universe, is largely is stable historically. This suggests that, in a market as volatile as cannabis equities, the SOT factor as a diversifier will not cause wild swings in portfolio weights over time. With that said, there will be exceptions from time to time, as new companies are added to the universe or if a CRB makes a significant acquisition of licensed businesses, which would require a more significant reweighting.
It is important to note that the CRB Monitor Strength of Theme is a critical factor in the construction of the Nasdaq CRB Monitor Global Cannabis Index (HERBAL). Because Strength of Theme is a comparative measure of operational diversification it is an excellent complement to Nasdaq’s current inclusion and weighting criteria, which do not feature unique data like ours. It is also worth repeating that CRB Monitor is not in the business of stock selection or making buy/sell recommendations; however, because our research does provide a unique measure of operational diversification and relative risk, we encourage cannabis investors to approach us to discuss potential uses for this data.
[Our readers should expect to see additional analyses from us in the future, including backtesting results, which we expect will reinforce our expectations that SOT, when combined with standard investability factors like market cap and trade volume, will help to control risk in cannabis equity portfolios and indexes.]
Wondering what a Tier 1, Tier 2 or Tier 3 CRB is?
See our seminal ACAMS Today white paper Defining "Marijuana-Related Business" and its update Defining "Cannabis-Related Business"