Cannabis stock short sellers are down $490 million in year-to-date mark-to-market losses as cannabis related stocks rallied over the last year as seen by the Horizons Marijuana Life Sciences ETF (HMMJ CN) being up +26% in 2018 and +169% one year return.
Cannabis based pharmaceutical company Tilray Inc.’s (TLRY US) stock price rose 47% over the last week on news that it received regulatory approval to export medical cannabis flower to Germany, the largest cannabis market in Europe. Previously, Tilray, Canopy Growth (WEED CN) and Cronos Group (CRON US) were only allowed to ship cannabis oil to Germany.
Short sellers have been very active in the cannabis sector this year, with short interest climbing to $1.5 billion spread over 33 stocks and ETFs. This is a $458 million increase in short interest, +44%, since the end of the second quarter. Most of this increase was centered on increased short activity in Canopy Growth and Tilray, which were up $514 million in just over three months.
The strong rally in the cannabis sector for the past few months has generated sector wide mark-to-market losses for short sellers, -$490 million year-to-date and -$626 million since August, but that has not put a damper on continued short selling. Two of the least profitable short performers, Tilray and Canopy Growth, also have the largest increase in short selling. Cannabis short sellers have not done well recently, down $103 million in mark-to-market losses last week and down an additional $76 million today.
Short sellers are positioning themselves for a pullback in what they believe is an overheated sector, but holding on to their positions is becoming an expensive proposition. The average cost to borrow stocks in the Cannabis sector is 21.8% fee and short sellers are paying over $2.4 million/day in stock borrow financing costs. Shorting a sector ETF is usually a cheaper alternative, but the two main cannabis ETFs are only slightly less expensive at an average of 20.8% fee.
In addition to high stock borrow costs on existing short positions, it is getting very difficult or near impossible to locate stock borrows in many of the securities in the sector. New, but very small, Tilray stock borrows were going at 450% to 600% fee levels today while stock borrows in Green Organic Dutchman (TGOD CN) and Cronos Group (CRON CN) are going at 50% fee levels. If stock loan recalls and mark-to-market losses continue to accumulate in TLRY, TGOD and CRON we could be on the verge of squeezes in these three stocks. In actuality, the only stock in the sector not in near-term danger of a short squeeze (because it has ample stock loan availability and palatable stock loan fees) is GW Pharmaceutical ADR (GWPH US) which is going at the 1% fee level.
With stock loan availability tight and high stock loan fees limiting the amount of additional short sellers entering the cannabis sector, long shareholders will be the controlling force in regards to stock price movement. Short sale activity will be relatively insignificant relative to long buying and selling pressure. If short sellers get squeezed due to the triple threat of high stock prices, high stock borrow fees and stock loan recalls they will be forced to buy to cover their exposure. This will add fuel to an already overheated sector, especially if long shareholders continue to bid up cannabis stocks in anticipation of continued deregulation and merger/takeover opportunities like Constellation Brand’s (STZ US) $2 billion investment in Canopy Growth (WEED CN).
On the other hand, if longs begin selling and inventory finds its way into stock lending programs, shorts will find it easier to build their positions and offset some of the bullish sentiment we’ve seen in the sector over the last 5 weeks. If short sellers can continue their third and fourth quarter growth then the cannabis rally may be on its last drags.
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Managing Director Predictive Analytics, S3 Partners, LLC
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