More Signs the Economy Is Not Likely to Explode Near-Term

This time last week, the stock market experienced its biggest decline in several months, largely due to concerns over what President Trump did or did not share with outsiders in the Oval Office. The result around the beltway and in the mainstream media was the increased drumbeat over the question of impeachment. Needless to say, that has died down — for now — and has been somewhat blanketed over by Trump’s visit overseas, which has coincided with a number of high-profile deals for US companies in a likely bid to get his agenda back on track.

More recently we received Trump’s 2018 budget, which contained few surprises other than the fact that the baseline assumption includes favorable economic growth, which most likely hinges on passing tax reform, rebuilding aging US infrastructure and additional reforms. We expect this to be a hot topic as we head into the 2017 election season and with Congress in session just over 40 days during May, June and July, the odds of meaningful movement in Washington is likely to slip once again to later in 2017. As we shared in an interview with Bloomberg yesterday, it’s looking more and more likely that it will be late 2017 at best, to early 2018 is when we could see any true Trump Bump in the economy begin to emerge.

Despite Trump’s wins overseas, the Markit Flash US PMI for manufacturing continued to soften in May, marking an 8-month low, but that was modestly offset by the May Flash PMI for the US service economy, which ticked higher month over month. While many eyes focused on the net month over month increase in the US economy, we saw confirmation that inflation pressures “eased markedly” from April’s two and a half year peak. We’ve been writing about this over the last several weeks, and that reversal is likely to take some wind out of the Fed’s rate hike sales.

That wind out of the sales view was further strengthened in yesterday’s May FOMC minutes, which were far less hawkish compared to recent reports. In a nutshell, Fed policymakers agreed they should hold off on raising interest rates until they see evidence that a “recent economic slowdown was transitory.” If we put our Fed decoder rings on, this likely means a pushout in expectations for the Fed to bump rates higher from June to July if not later in 2017. That news sent the dollar lower as well as financial stocks, but for those that have been following the slowing economic data and rollover in inflation, it’s not really that much of a surprise.

From our perch, we see the Fed’s comments tied with the latest push out in Trump reforms leading to GDP forecast reductions and most likely negative earnings revisions in the back half of 2017 as analysts and economists update their projections. As it sits today, current expectations call for 2H 2017 earnings to rise more than 10 percent year over year or 11 percent compared to the first half of the year. Pretty steep given the speed of the economy and where we are in the current economic cycle, especially if tax and other reforms are pushed out.

As we head into the summer months, this keeps us in a more defensive position considering record consumer debt levels and still scant signs of wage growth. While some may accuse of being Debbie Downers when it comes to the economy and the likely bumpy road we face in the near-term, that’s what happens when we let the data talk to us.

With the economic background, let’s now get down to brass tax…What It Means for Us Investors

The issue right now for investors is the stock market is still trading at more than 18x expected 2017 earnings. As we’ve pointed out, should those earnings get revised lower, which we see as likely, either the market is that much more expensive — making opportunities a bit scarcer — or we’re likely to get a pullback. Looking at the latter against last week’s market drop, we’d say tensions are running high and if a pullback does emerge, investors are likely to shoot first and ask questions later.

As the dust settles, we’ll be there using our thematic lens to pick up the pieces, looking for diamonds in the rough.

From a Tematica Pro perspective, even though the ProShares Short S&P 500 (SH) and ProShares Short Russell 2000 (RWM) have worked against us as the stock market has moved higher in 2017, we’ll keep those inverse ETFs in play. Those subscribers that have held off adding, it’s our view it would be wise to get some protection into your portfolio as we head into the summer months.

We will also keep our short positions on both General Motors (GM) and Simon Property Group (SPG) intact. Given the shape of the consumer and no improvement likely in the near-term, we continue to see consumers cutting back where possible to manage their debt burden. One potential wild card to watch will be the now expected OPEC oil production cut extension. While the U.S. has been pumping oil at record levels, the OPEC pullback could lead to higher gas prices in the second half of the year and add an extra twinge to consumer wallets.

• We continue to have a $150 price target on our remaining SPG shares and buy stop order is still set at $163.
• We are sticking with our short position on GM shares. Our price target remains $30.
• Our buy stop order on GM shares remains at $40. As GM shares move lower, we’ll continue to tick down our buy stop order with the goal of using it to lock in a profitable position.

Housekeeping!

Over the last week, we were stopped out of the Chipotle Mexican Grill (CMG) July 2017 $500 calls at $13.00. This led to a modest loss, roughly 13 percent, for the position. While that took a bite out of our shorts positions in GM and SPG, those two positions closed last night up 10.4 percent and 12.2 percent, respectively.

Yesterday I was a guest on Cheddar, the new live and on-demand video news network.  I was asked to discuss the prospects of a Chipotle comeback as it puts the eColi health scare in the rearview mirror. While we see great things to come for CMG in the coming quarters, it turned out that now wasn’t that time from an options perspective. We’ll look to take another bite of the burrito so to say as the dust further settles. In the meantime, you can check out the interview by clicking here.