3 Things Every Investor Should Learn From the Rise and Fall of Tilray

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For a time, it seemed that nothing could go wrong for Tilray (NASDAQ: TLRY). The Canadian marijuana stock soared 184% in August. It skyrocketed another 228% between Sept. 1 and Sept. 19. No other stock on the market was as hot as Tilray. And then the sizzle fizzled.

Last week, Tilray began a plunge that's still under way. In a matter of three business days, the company lost half of its market cap. Some investors still probably made a lot of money off of Tilray's run. Others who jumped aboard amid the frenzy likely lost a lot of money. But regardless of whether or not you bought this marijuana stock, there are three things every investor can learn from the rise and fall of Tilray.

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1. Always keep the business prospects front and center

Probably the most important lesson of all is to always keep the business prospects front and center. Over the long run, owning a stock is owning part of a business. Tilray's stock definitely had a major disconnect with the company's business prospects.

It's not that Tilray doesn't have great business prospects. The company should be a big winner in Canada's recreational marijuana market, which is scheduled to open on Oct. 17, 2018. Tilray already has supply agreements with several provinces and territories lined up. The company is boosting its production capacity to meet demand in the domestic market and in the rapidly growing international medical marijuana markets.

But if there was any doubt that Tilray's stock gains weren't connected with the reality of its business prospects, a comparison with Canopy Growth should have settled the matter. Both companies have the same opportunities for growth ahead of them. But Canopy has greater production capacity, more money, and a close relationship with a major alcoholic beverage maker that Tilray doesn't currently have. Despite all of this, Tilray's market cap soared past Canopy's. That was a clear sign of a disconnect between Tilray's business prospects and its stock price.

2. Be skeptical about huge moves with no clear underlying catalyst

There were several days over the last few weeks where Tilray's share price jumped with no new developments. When there's no clear underlying catalyst behind a big move, it's good to be skeptical.

Granted, sometimes stocks can quickly move higher as big institutional investors buy large blocks of shares over time. This creates an upward pressure for the stock price. And it's certainly a positive thing for a stock to receive institutional support.

On the other hand, nearly parabolic stock gains like what Tilray experienced can often be the result of a short squeeze. Tilray's short interest has been high. Its stock float is low. Combine those two factors with a little positive news, and you get the kind of scenario we've seen with Tilray's epic rise. Short-sellers began to cover their positions as the stock went up, which helped drive the stock even higher. But when the short covering was over, Tilray started to tank.

3. Closely examine the factors behind major stock moves

Sometimes, the factors behind big stock moves appear to be obvious. For example, it made sense that marijuana stocks, including Tilray, jumped when reports surfaced that Coca-Cola could be in discussions with Aurora Cannabis about a partnership. Tilray's CEO appearing on CNBC talking up the cannabis industry's prospects is also the kind of thing that often gives a stock a boost.

But even when it's pretty clear what the catalysts are, it's always a good idea to closely examine those factors. For example, investors should have questioned whether or not Tilray's huge market cap increase made the company more or less likely to attract a major partner outside of the cannabis industry. There's a real possibility that it could decrease the likelihood of a large equity stake like the one Constellation Brands made in Canopy Growth.

The comments made by Tilray CEO Brendan Kennedy on CNBC provide an even better example of why investors should carefully research underlying catalysts behind big stock moves. Kennedy claimed that there could be several marijuana companies with market caps of $100 billion or more with a global cannabis market of $150 billion. His numbers could be right, but some investors could have failed to understand that it will be a really long time before the global cannabis market gets anywhere close to $150 billion.

In defense of Tilray

It's easy to beat up on the company after the crazy gyrations Tilray has undergone. However, it wasn't Tilray that caused a short squeeze, or its aftermath. The situation with Tilray was instead caused by traders who were betting against the stock and realized they were losing big on those bets.

Will Tilray's share price continue to fall? It wouldn't be surprising if it did. At some point, though, the stock will be more in alignment with the realistic business prospects for the company. When that time comes, whether it's a matter of weeks or months, Tilray will become a stock to consider on the merits of its potential growth -- keeping the three lessons discussed earlier in mind.

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Keith Speights has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.