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Canadians will be able to invest in a basket of marijuana companies when the first marijuana exchange-traded fund launches next week, helping investors diversify their exposure to the volatile and frothy sector.

The Horizons Medical Marijuana Life Sciences ETF (TSX: HMMJ) is slated to begin trading Tuesday on the Toronto Stock Exchange. It will include 11 Canadian-listed stocks and four listed in the United States.

Exchange-Traded Funds (ETFs), which track the performance of a specific index or sector, have proliferated in recent years.

And while there are ETFs for everything from cybersecurity to construction, Horizons needed to jump over an unusual number of regulatory hurdles to add marijuana to the mix, said Steve Hawkins, president and Co-CEO of Horizons ETFs.

“There was lots of regulatory scrutiny, it’s a very controversial asset class,” he said.

“By a long shot, this was the most scrutinized fund that we’ve ever launched out of the hundred plus that we’ve done.”

However, it’s also a sector that Horizons sees as very lucrative. Hawkins said being first to market with a sector-specific fund has proven an important barometer of success.

Horizons pushed its debut ahead to beat out potential competitors, which have proposed similar funds. Paperwork for a medical marijuana and hemp-focused ETF was filed in February with U.S. regulators by ETF Managers Trust.

As the Canadian government gears up to introduce marijuana legalization legislation as early as next month, the option to invest in an ETF is yet another sign the black market drug is becoming mainstream.

“It is something that investors want to invest in, it is extremely topical,” Hawkins said.

“We’ve never received the feedback for any other product that we’ve launched like we have for this product.”

This was the most scrutinized fund that we’ve ever launched out of the hundred plus that we’ve done

Horizons is quick to point out it will not invest in any businesses that are not legal, including Canadian recreational-only companies or U.S. companies that produce or distribute marijuana itself.

It is only listed in Canada as pure-play weed companies are barred from listing on U.S. stock exchanges because, despite its legality in several U.S. states, it is still on the federal government’s list of Schedule I narcotics, alongside heroin and LSD.

The fund will be passively-managed and offer a management fee of 0.75 per cent. It focuses on companies that generate revenue from the medical marijuana industry, including Canada’s largest publicly-traded licensed marijuana producers such as Canopy Growth Corp., Aphria Inc. and CanniMed Therapeutics.

It also includes Canadian-listed stocks that are active in other markets such as CannaRoyalty Corp., which has interests in U.S. marijuana-related companies that deal in everything from real estate to devices to skincare products, and International Cannabis Corp., a marijuana producer in Uruguay, the only country where marijuana is currently legal at the federal level.

It was only a matter of time before a marijuana ETF was launched and there are several others in the works, said Khurram Malik, head of research at Jacob Capital Management.

The problem is, he added, there are not enough large and liquid cannabis companies to put in funds to make them look like a typical ETF.

“The problem with the cannabis space is there’s only so many you can put in there, so there will have to be a couple of other large names to round things out that are kind of weedy but not pure play because they have to hit a certain number of stocks to hit a diversification threshold.”

The largest stock in the fund is Ohio-based, New York Stock Exchange-listed lawn care provider Scotts Miracle-Gro, which invests in hydroponics, soil, growing systems and lights for the marijuana sector. British pharmaceutical giant, GW Pharmaceuticals, which is NASDAQ-listed, is also included due to its focus on developing cannabinoid-based medicine.

The fund is dynamic, meaning it has the flexibility to include more companies as medical and recreational marijuana becomes legal in more regions.

It will be re-balanced every quarter, based on Solactive’s North American Medical Marijuana Index that screens companies for size, market capitalization, liquidity, dollar value and the number of shares traded on a daily basis.

Financial Post