As cannabis stocks continue a decline following the legalization of adult-use sales in Canada, a new report shows short sellers are racking in gains.

After taking hits cannabis short sellers are now seeing gains again as the investing tactic made US$450 million during two trading days, according to a market report released on Tuesday (October 23) from research firm S3 Partners.

The note highlights the sum made by shorts on Monday (October 23) and Tuesday and indicates these gains have cut approximately a third of the year-to-date losses for shorts.

Gains for short sellers from the top 20 cannabis stocks resulted in US$435.5 million during the two trading days highlighted.

Since legalization on October 17, cannabis stocks have taken a hit as a massive sell off has taken hold in the public space.

Marijuana exchange-traded funds (ETFs), such as the Horizons Marijuana Life Sciences Index ETF (TSX:HMMJ) and the Evolve Marijuana ETF (TSX:SEED), have dropped in value 23.1 percent and 16.90 percent since legalization.

Cannabis stocks such as Aurora Cannabis (NYSE:ACB,TSX:ACB), Canopy Growth (NYSE:CGC,TSX:WEED) and Tilray (NASDAQ:TLRY) provided the top gainers for shorts.

Respectively, each stock created a return of US$108.1 million, US$99.6 million and US$65.1 million.

Short selling is a move by an investor to sell a borrowed security based on the prediction that the stock will go down and will be bought back at a lower price.

S3 explained shorting positions have gained popularity on cannabis stocks in the US public markets. The firm also projects even more shorting depending on the costs involved:

If the cost to borrow cannabis stocks begins to cheapen in the larger cap names, we may see more short sellers enter this over-heated sector looking for stock prices to ease back down to more reasonable value based multiples.

Shorting pot stocks continues to be a pricy move

The costs for shorting remain high as the average fee for an outstanding short position is 15.43 percent.

S3 wrote one of the reasons shorting is so expensive in this sector is due to limited institutional investors in the space. Despite its booming path in 2018, cannabis stocks have faced scrutiny and little participation, so far, from the US investor audience.

As more cannabis companies migrate their stock listings to the US, a wider investor audience has now been able to gain exposure in the market.

“Once institutional ownership increases in the sector we can expect stock borrow costs to decline significantly,” the report said.

Some of the popular stocks getting shorted recently, according to S3, are cannabis producers Tilray, Canopy Growth and Aphria’s (OTC:APPHQF) US listing.

On Wednesday (October 24), Aphria obtained approval from the New York Stock Exchange (NYSE) to list its shares. It is expected for Aphria to delist from the OTC as it uplists to the premier exchange.

Tilray remains the most expensive short in the cannabis space, with a nearly 72 percent cost fee for the borrowing position.

In September, shorting cannabis stocks had become an expensive manoeuvre leading up to legalization.

“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,” S3 previously indicated.

Investor takeaway

Charles Taerk, president and CEO of Faircourt Asset Management, previously told the Investing News Network (INN) short sellers have gravitated towards cannabis since they look for newer sectors with growth and “a perceived amount of volatility,” to stake positions.

Don’t forget to follow us @INN_Cannabis for real-time news updates!

Securities Disclosure: I, Bryan Mc Govern, hold no direct investment interest in any company mentioned in this article.

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