Canopy Growth About To Deliver Max Pain To Panicky Short Sellers

Benjamin A. Smith
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An epic short squeeze/investment splurge has lead to one of the fiercest rallies in Canopy Growth Corp (TSE:WEED) (NYSE:CGC) (FRA:11L1) for quite some time. As such, the natural inclination would be to lighten up positions and perhaps make a little money on the short side as profit takers move in. While a more sustained pullback is surely in the cards, I’m not sold that this epic multi-day rally in quite complete.

Of course, this massive run in Canopy Growth stock is being fueled by the news that Constellation Brands Inc. agreed to acquire 104.5 million shares directly from Canopy Growth Corp. last Wednesday. Assuming existing warrants are exercised, STZ will thereby achieve approximately 38-percent ownership in the Bruce Linton-led cannabis powerhouse—over 50-percent if the newly-issued warrants are exercised. The total monetary value of the transaction is approximately $5 billion CAD, with optionality for an additional $4.5 billion if newly-acquired warrants are exercised. It is the first 10-figure direct investment in cannabis history, and judging by the market reaction, won’t be the last.

Amazingly, it only took Canopy Growth four sessions from the time of the announcement to close above Constellation Brands acquiring price of $48.60 CDN/share—which was already a generous ↑51.2% premium to the closing price on August 14, 2018. The stock is also trading right around Canopy’s new warrant exercise price of $50.40 CDN/share, vested for a full three years from the time the transaction closes. Amazing.

Now six days into the rally, sellers have tried—and failed—to deliver a knockout blow to the bulls controlling this run. This bodes poorly for panicky shorts, as the stock has its all-time high firmly in sight.

The first piece of stems from the lack of truly overbought levels on the daily chart. While Canopy’s move has been intense, its short duration leaves such indication as the 20-period RSI below the generally recognized extreme overbought level of 80. Considering an epic move of this size—and the brilliantly relevant catalyst backing it up—it’s hard to envision this threshold won’t be crossed before a move sustained bearish impulse sets in.

The second bit evidence supporting a continued move higher is a potential bear trap situation which occurred this morning. As we can see, prices careened down at the open at over double the average 50-period volume. However, that selling dried up quickly as other sell-side algos/traders failed to participate, and easily drifted to the highs on declining volume. That’s not the type of price action typical of a sustained bearish impulse lower.

Keep in mind that 18,316,147 shares of Canopy Growth (CGC)—about 8% of the float—are current short, according to Wall St. Journal figures (July 31st). Considering the deeply bearish impulse the stock was undertaking in July, and the very unexpected nature of Canopy’s announcement with Constellation, I believe its likely many shorts are both still present, and trapped in highly unprofitable position. Indeed, shortdata.com indicated that only ↓4.62% of short position in WEED was covered in the period from August 1-15 on the Toronto Stock Exchange. In other words, short-sellers were in no rush to cover while prices were challenging the May lows. Presumably, the same dynamic was happening in New York.

Another thing working for Canopy Growth currently is market breadth. Yesterday, five of six top volume gainers (all positive) on the Toronto Exchange were Canadian LPs. Additionally, the second largest cannabis company in the world—Aurora Cannabis Inc.—should act as downside support backstop as institutions pile into the stock to take advantage of free Australis Capital shares, which will be distributed to shareholders of record on August 24th. Unlike many periods in 2018 where Canopy remained on an island of its own, this time, much of the cannabis complex remains on its side.

How far this move ultimately goes is up for debate. With the sharks circling the pool and smelling blood, anything is possible Personally, I think we’re already in the late innings. But I don’t expect a more protracted sell-off to occur until max pain has been delivered. Judging the evidence at hand, that inflection point may be drawing near.

Benjamin A. Smith

Benjamin A. Smith

Ben is a research analyst and capital markets professional with nearly 20 years of experience. His areas of expertise are broad-based, and include extensive knowledge of macro economics, stock/derivative trading, commodity complexes, cryptocurrencies and technical/quant analysis. He also maintains an particular affinity for U.S. politics and the macro-regulatory environment facing...
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