Cannabis stocks are off to a hot start to the year, but can that momentum be sustained?

Thanks in large part to optimism surrounding the Georgia Senate run-off election results that will give the Democratic Party control of Congress in addition to the White House, cannabis has been one of the biggest winners of the new year, with the valuations of most pot stocks trading around record highs.

Major U.S. cannabis operators Curaleaf Holdings Inc., Trulieve Cannabis Corp., and Cresco Labs Inc. have climbed 19 per cent, 31 per cent and 26 per cent, respectively, in that time. Meanwhile, smaller players have also posted similar gains.

The trade is also evident in Canadian markets, with Canopy Growth Corp., Cronos Group Inc. and Aphria Inc. - fresh off quarterly results that handily beat analyst expectations - also posting strong gains. Shares of those three companies are up 27 per cent, 43 per cent, and 71 per cent, respectively.

Meanwhile, inflows into the AdvisorShares Pure U.S. Cannabis ETF, which closely tracks publicly-traded U.S. cannabis stocks, has more than doubled to US$579.3 million so far this year. That ETF is also seeing strong advances, up 20 per cent since the beginning of the year. Another cannabis-focused ETF, ETFMG Alternative Harvest ETF, is up about 33 per cent.

"This was a slow-motion perfect storm," said Todd Harrison, chief investment officer at cannabis-focused investment firm CB1 Capital Management. Harrison said that cannabis has enjoyed a banner year in the U.S. as the sector enjoyed momentum from the COVID-19 pandemic and the Georgia Senate results, in addition to November election results that saw pot legalized in five new U.S. states.

As sentiment soars, so too has the ability for some U.S. companies to raise cash to help fund further growth in the country's burgeoning cannabis market. U.S. cannabis companies have netted more than US$975 million in new equity raises since the beginning of the year. However, most of the deals haven't closed, according to Viridian Capital Advisors.

"The capital raises are to buy accretive assets that are going to be gone soon," Harrison said. "This market is going to be efficient right quick and once it does it will be a pretty powerful process as institutional investors come on board."

But the latest run-up may cause some investors to think twice about getting back into the cannabis space. This is especially true for those who were caught off guard when Canada's pot bubble burst causing some company values to plummet by as much as 95 per cent.

One fund manager warns another bubble may be set to pop as some Canadian company valuations have risen in lockstep with their U.S. counterparts this year despite a lack of exposure to the U.S. market.

"I would be very careful of Canadian LPs here, in terms of another bubble that might be forming," said Nawan Butt, portfolio manager at Purpose Investments, in an interview. "As far as the fundamentals of the business go, they're still somewhat distressed."

Butt added that he doesn't see the U.S. cannabis industry in a bubble right now, describing the valuations for some of those companies as "reasonable" with strong growth rates to be expected moving forward.

"I think there's a lot of upside that's still available," he said.