The black market for marijuana has always been healthy and thriving in North America.

With ample consumer demand, black market marijuana prices are high enough that drug dealers are compensated for the risk of arrest and having their product seized by authorities.

The prevailing running hypothesis among investors who are ardent marijuana bulls is that the legal market will crush the black market within months of legalization because in their words:

Some people will keep their old black market connections, but the vast majority of people would rather ditch the seedy underworld and seek safer routes to consumption.

However, the data continues to argue otherwise.

It’s a highly challenged proposition to own marijuana stocks based on the belief that all it takes to replace the black market is high priced, slickly branded, high quality marijuana.

We present only a sample of information below that points to a black market that is much more resilient than investors expect.

The Black Market is Thriving in Canada

Due to taxes, illegal marijuana will always be 20-25% cheaper than legal bud.

Take Canada for example. Even the government admits that the marijuana black market is fully supplying Canadians.

According to Health Canada data Canadians consumed 651,000 kg of marijuana in 2017 and 99% of it came from the black market.

Canada produced so much that an extra 120,000 kg (16% of supply) was exported illegally to the US and other countries in 2017.

Black market marijuana prices are already falling in Canada as illegal growers continue to adapt to how the licensed producers are pricing their product.

Due to taxes, illegal marijuana will always be 20-25% cheaper than legal bud, giving the black market a constant advantage.

MARIJUANA PRICE PER GRAM IN CANADA BY YEAR (MEDICAL AND NON-MEDICAL)

Marijuana Price per Gram in Canada by Year (Medicianal and Non-Medicinal)

Source: Health Canada

Price Your Legal Marijuana Too High and the Black Market Steals Your Customers Away

New data out of California shows what happens to demand when legal prices go too far above black market prices.

California legalized marijuana in January and saw prices rise 20% due to a legal shortage.

Consumers did exactly what marijuana bulls say they never will: switched to the black market.

Sales volumes fell 50% from December to January, before recovering as prices began to fall with an increase in legal supply.

This chart is a glaring example of how the mispricing of legal marijuana can lead to a failure to convert consumers away from the black market they have always relied on.

Source: BDS Analytics

Even When Legal Prices are Low The Black Market Won’t Give Up

As long as there are illegal US states, there is an incentive for drug dealers in legal US states and Canada to export their product to wherever the price is highest.

The CBC published an interesting article last week looking at the black market in Colorado, which is still thriving even though Colorado legalized marijuana more than four years ago.

Informal polls included in the article found that only slightly more than half of smokers buy their marijuana legally in Colorado, which really surprised us given the long history of legalization and retail prices that are down 50% in four years.

A price advantage for the black market isn’t the only incentive for the big time drug dealers to stay in business.

As long as there are illegal US states, there is an incentive for drug dealers in legal US states and Canada to export their product to wherever the price is highest.

We have heard rumours of legal Colorado produced vaping oil showing up in East Coast states that are not yet legal. Illegal exports can and do happen.

Marijuana Prices Down 50% in Colorado

Source: BDS Analytics

Don’t Ever Count the Black Market Out

Canada has a large and well functioning grey/black market just like California.

It is imperative that the government is realistic when choosing a tax regime and the retail price of legal marijuana.

If they get greedy, the black market will punish licensed producers and government coffers by holding on to the average consumer, potentially for years.