Rational Trading Lessons From Tilray’s Irrational Week

Marijuana stocks have had a wild few weeks. But even in an industry as historically volatile as cannabis, nothing quite takes the cake like Tilray’s trading action last week. In the span of 24 hours, Tuesday night and Wednesday, the Canadian medical cannabis producer’s stock ran from $150 to $300 back to $151, before closing at $214. By the end of the week, all those gains had been completely wiped out.

This type of movement can only be described as irrational exuberance. It’s not trading—it’s a complete breakdown of an efficient market where risk is uncontrollable and there’s seemingly no logic. But that doesn’t mean we can’t learn from it. Last week’s move provided textbook lessons in risk-management. Let’s review a few.

Control Your Position Size

There were undoubtedly a few traders last week who let the price action sucker them into increasing their position beyond their means. This is a mistake. Huge rallies or dips might seem like great buying/shorting opportunities, but when the trade moves against you (and in irrational moves, the party always comes to an end) you may find yourself suddenly on the hook for more than you can afford.

A common way many traders avoid this mistake is by following some sort of hard rule. Maybe you always put trades on for the same number of shares. Maybe you never exceed a certain dollar amount—a common tactic many traders use is to never risk more than 1 percent of their entire portfolio, for example.

Stops Are Your Friend

You remember stops, right? They’re that order you may have placed before you made a profit. It’s easy to move your stop around when your trade worked for you and you want to make more, so maybe you move your sell-stop up another twenty percent. This is a slippery slope.

Volatile times like this are a good time to use trailing stops that automatically adjust to price changes. Even still, a stop order is only good as long as you keep it. It’s important not to forget about them as soon as things start to get a little crazy.

Fundamentals Won’t Always Save You

This goes back to the famous saying “The market can stay irrational longer than you can stay solvent.” In a short-term move like Tilray’s last week, fundamentals go out the window because there are no fundamental reasons for the move.

Based strictly on fundamentals, New Cannabis Ventures founding partner Alan Brochstein—an expert in cannabis investing—recently said that he “would have laughed” if someone had said a month ago that Tilray would be testing $100 per share, let alone $300. The company has less than 1 million square feet of developed land, making a $26 billion valuation absurd from a fundamental perspective. Even if you knew that and were inclined to short every rally last week, you had no way of knowing how long the irrationality would continue. The people who shorted at $100 or $150 or even $200 were likely squeezed out of their trades, even though they turned out to be right.

Volatility like Tilray’s last week is rare. Some traders undoubtedly made a killing, while others likely got crushed. The best thing you can do during moves like this is to control your risk. There will always be another train to catch.

Additional Resources for Risk Management:
https://www.lightspeed.com/active-trading-blog/every-trade-needs-exit-strategy/
https://www.lightspeed.com/active-trading-blog/5-common-mistakes-short-sellers-make/
https://www.lightspeed.com/active-trading-blog/spot-potential-short-squeeze/

Disclosure: the author holds no position in the stocks mentioned.

Lime Brokerage LLC is not affiliated with these service providers. Data, information, and material (“content”) is provided for informational and educational purposes only. This content neither is, nor should be construed as an offer, solicitation, or recommendation to buy or sell any securities. Any investment decisions made by the user through the use of such content is solely based on the users independent analysis taking into consideration your financial circumstances, investment objectives, and risk tolerance. Lime Brokerage LLC does not endorse, offer or recommend any of the services provided by any of the above service providers and any service used to execute any trading strategies are solely based on the independent analysis of the user.

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