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WallStreetBets puffs up cannabis stocks

Published on February 19, 2021 by Corinne Doan

WallStreetBets reversed what should have been a bad day for weed stocks, writes Corinne Doan.

February 9, 2021, was not a normal day.

Two weeks earlier there were mumblings about a social media site called Reddit and its investment page WallStreetBets. It’s an online discussion group for stock investors with reportedly eight million followers. There are several social media sites to exchange information for investments, but WSB dared to do something different. It was able to persuade its followers to join forces. By joining the strengths of the many, they were able to disrupt the power of the few.

A typical goal for a stock trade is to buy low and sell high. Professional analysts do fundamental research using companies’ balance sheets to determine financial health and stability. That helps determine which stocks should be bought or sold. If a weakness is discovered, a sell recommendation is released. Normally, you need to own a stock to sell. However, there is an investment tool called a ‘short,’ which allows an investor to sell stock not owned by the seller. The idea is to sell a stock in hopes the price will drop and can be bought back at a lower price. It’s a calculated risk called a ‘hedge.’ The purpose is to make a profit between the price sold, and the price it is bought back. There is a limit to how much profit can be made with a short because stock prices cannot drop below $0. However, if a stock goes up, there are no limits to how high it might go and that can create infinite losses. When a stock price unexpectantly goes up, investors race to cover their short positions to stem their losses. Simultaneously they cause the price to escalate more creating what is called a ‘short squeeze.’ Hence it’s a high-risk limited reward strategy. Anyone can short a stock but because of associated costs and risk, it is a tool used mostly by wealthy institutional investors and hedge funds.

GameStop’s stock hit unprecedented highs thanks to the mobilization of r/wallstreetbets.

WallStreetBets identified GameStop as a company many institutional firms were selling short around US$17 per share. To counter the institutional shorts, WSB put a buy recommendation on GameStop. Astoundingly, a lot of people followed and with so many working together, they were able to influence the stock price to go up. Institutional players had to start buying stock to cover their shorted positions which created more momentum for the stock price to increase—a short squeeze. The stock increased to an astronomical US$483. It was a pyramid scheme that worked. Although it needs to be cautioned, some would have been left holding stock they were unable to sell before the price dropped. And drop it did. The inflated market lasted only a few days. Although it hasn’t fully returned to its pre-Reddit invasion prices at time of writing, GameStop is trading at US$52. The union of people working together like a swarm, to the point it was able to successfully turn around a flailing company’s stock price has never happened like this before.

During the same time frame, cannabis industry stocks were on a bull run. A bull market means there are more buyers than sellers causing stock prices to increase. The new American Biden-Harris administration announced cannabis legalization as part of their mandate. Accordingly, investors started buying, and as a result, cannabis stocks had been on a steady incline for over two months. The momentum was driving cannabis stock prices to become overly inflated.

Additionally, a merger between two of the cannabis industry’s power houses was announced. Tilray and Aphria merged to become the world largest cannabis company eclipsing Canopy Growth. For years Canopy has been at the forefront of the cannabis industry. It has been considered the largest cannabis conglomerate since 2018 when Constellation Brands invested $5 billion. When the Tilray-Aphria merger dethroned Canopy, the cannabis industry was tingling with excitement for new possibilities. Interest persuaded more investors, and the market continued its inflated escalation.

After over two months of steadily inclining stock prices, experienced investors could recognize the artificially inflated market. It was fragile and like a balloon, could burst with a tiny catalyst pin prick. And some had an idea what that catalyst might be.

Many cannabis companies have been struggling since legalization. To manage challenges, licensed producers have been shuttering facilities, laying off employees, and making strategic cutbacks to stay afloat. Although it was the largest of all cannabis companies, Canopy Growth was also faced with setbacks. It was widely expected for Canopy to announce more impairments with its next set of quarterly financials. That was the pin prick investors were predicting would deflate cannabis sector stocks.

Canopy Growth’s quarterly financials were released before the market opened on Feb. 9, 2021. It revealed the company had $829 million in impairments (that’s almost a $1 billion lost). The loss was countered with $152.5 million in net revenue. Analysts estimate it could be years before Canopy can be profitable. The bad news should have plummeted Canopy’s stock prices taking the rest of the industry down like a weighted anchor.

Then came Reddit and WallStreetsBets.

WSB put buy recommendations on cannabis licensed producers Tilray and Sundial. Many analysts consider Sundial a bankruptcy risk. And Tilray had been trading at prices far above its value since the merger announcement. Both stocks were heavily shorted. After the buy recommendation was released by WSB, the premarket indicated Tilray was set to open with an unprecedented $22 increase from its prior close. Over the coming days, Sundial and Tilray stock prices increased over 100%. Instead of Canopy weighing as an anchor, Tilray and Sundial acted like lifts attached to a skyrocket. Adding fuel to the fire was a misleading news alert regarding the state of Virginia passing a bill for recreational legalization. The announcement came with a bizarre attachment listing ticker symbols for Canadian licensed producers True Leaf, Tilray, Aurora, Canopy Growth, Cronos and Aphria.  Most cannabis stocks soared including Canopy Growth, which escalated a staggering $15/ share to a high of $71.60.

Investors who sold or shorted stock in anticipation of Canopy Growth’s bad news were at a loss.

Things settled down by the end of the week as most stocks were trading below their Feb. 9 prices. The two-day frenzy was a blip. It went away as fast as it appeared.

What are the consequences?

The tally to institutional investors has not been released. But the fury created in the stock markets from online social media sites has been noticed by investment industry regulators. Last week the US Securities Commission suspended a company from trading when an online promotion was exposed coordinating effort from several social media sites intending to artificially influence a stock price.

Also, some brokerage houses have placed extra limits on their platforms restricting what private investors are allowed to trade. The move was made in order to protect investors from themselves. Reversely, one might argue they are limiting the poor from accessing tools used by the wealthy.

Although the union of people working together needs to be applauded it also must be emphasized, following WSB strategy is not recommended. It is highly speculative and unreliable. Like any pyramid scheme, many will be left unable to sell their investment at a profit. Further, this is a fast market strategy. The prices drop as quickly as they accelerate. In the stock market world that is called a ‘pump and dump’ scheme and is extremely high risk.

Although markets go up and down, these events were totally unique. The realism online social media can successfully encourage followers to buy a stock to the point that it influences substantial impact during a time when we can’t all agree to wear a mask is remarkable. These are not normal times.

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Corinne Doan is Canada’s first published author with a book regarding Canadian cannabis investments titled Canadian Cannabis Stocks Simplified: A How-To Guide for the Budding Investor. She was a licensed investment advisor with a focus on venture capital markets and held investment industry (IIROC) relevant licenses with the Canadian Securities Course (CSC), options and branch managers.  Also, Cori has an MBA with specialty disciplines in public relations and communications. Any data or Information that is not directly cited in this report is believed to come from reliable sources.