Cannabis Corner: How a Short Squeeze Feels

It has been an encouraging week for cannabis bulls, with the core group of stocks I track rallying a staggering 21 percent since the last issue of Trading Desk.

Every single cannabis producer and distributor in that group joined the party. The weakest, Aphria Inc. (NYSE:APHA), reported a slight earnings miss and still surged 6 percent.

When the disappointments still run rings around the S&P 500, investors aren’t really looking at the underlying companies as separate entities. This is once again a pure thematic trade where a rising “green tide” theoretically will lift all boats.

That’s not really what’s going to happen. It is not healthy to punish great companies for the mistakes of their weaker competitors, which is what happened when that sentimental tide went out last summer.

And after watching unnaturally tight correlations between these stocks finally break, this feels more like a relapse than a reason to cheer. I don’t think this is a real rebound at all.

Instead, this is probably just the short sellers covering their positions and taking profits. As depressed as these stocks are, even that brief respite can unleash a whole lot of upside without changing the long-term trend.

We only need to look at Tilray Inc. (NASDAQ:TLRY) for a demonstration of how this works. That stock went from one of the hottest initial public offerings (IPOs) of 2018 to practically radioactive status. As I write this, short sellers now have committed to buy back 48 percent of the float.

In other words, they owe the market $150 million in TLRY stock before they can close their positions. Here in the new year, a few are cashing out. Nobody was willing to sell at $15 so the short sellers needed to raise the offer beyond $20, a stunning 35 percent above last week’s level.

The shorts can afford to look generous. Some of them opened bets against this company back in June when TLRY was a $45 stock. There’s plenty of room for this bounce to continue.

Naturally, the other Big Cannabis names were also heavily shorted, although not to the same extreme extent. They’re rallying too.

What I find encouraging is not the size of the bounce but the amount of shares the shorts still owe. A lot of TLRY shareholders evidently aren’t content to exit at $20.

They’re hanging on for better days ahead. That’s what I love about the market. Conviction counts. If the bulls are right, they’ll force the bears to surrender.

For now, we enjoy the relief and look to those better days.