Three of our elite short names in Zenith Trading Circle had very bad news over the past week. If you haven’t figured it out by this time, that usually means good news for us in the near future.
While I can’t give you my full recommendations (those are, as always, reserved for Zenith members), I can share the stock names and the news – and hopefully, convince you to get out of these companies if you haven’t already.
You might already own puts on these two toxic stocks, but this overvalued mess will likely be new to readers of Sure Money.
Here’s what’s going on behind the scenes…
TSLA, CAT and M All Had A Miserable Week
Over the past week, we learned that Tesla, Inc. (NASDAQ: TSLA) has not yet completed a Model 3 Beta Prototype. The Model 3 is the new lower cost vehicle for which the company took thousands of deposits (that are not held in a separate escrow account) and on which production is supposed to begin in the second half of 2017 for delivery beginning in 2018. While it is possible the company could still meet this schedule, many car manufacturers take up to two years after completion of a prototype to reach delivery. Tesla previously worked faster than that on other vehicles, but it remains to be seen whether a company that broke so many earlier production promises is going to be able to meet its schedule on Model 3. Tesla stock is down 15% since the company announced its fourth quarter loss. Investors should avoid or short the stock.
Caterpillar, Inc. (NYSE: CAT) also had a rough week when federal authorities raided several of its facilities and its global headquarters in Illinois as part of a criminal tax investigation. CAT stock fell about 4% on the news. We will be watching this story closely. It’s never good news when the Feds show up at your door and seize your files. Normally they issue a subpoena and give you time to respond. Zenith members who missed my detailed CAT recommendation can get that here.
Finally, Macy’s, Inc. (NYSE: M) stock was recently buoyed by reports that much smaller Canadian retailer Hudson’s Bay was going to try to buy it (a story I didn’t buy). Reports emerged this week that the Canadian company has been unable to raise the necessary equity money for the deal, pushing Macy’s stock lower. Macy’s, along with the overall retail sector, continues to be a pain trade for investors. There are reports that electronics and appliance retailer HHGregg will be the latest retailer to declare bankruptcy next week after it announced it is closing 88 stores. JC Penney announced massive store closings a week ago. Not a week passes by without another casualty in this sector. Macy’s may be an iconic retail name, but it is unlikely to escape the structural trends devastating the industry.
While our individual toxic stocks continue to stagger under the weight of bad news, the epic melt-up rally shows no signs of stopping. Here’s a quick look behind that curtain as well.
Trump, ETFS and Rate Hikes Are Fueling The Rally Right Now
The melt-up in stocks continued last week with the Dow Jones Industrial Average gaining 183.95 points or 0.9% to close at 21,005.71, its fourth straight weekly gain. The S&P 500 rose 0.67% to end the week at 2383.12 and the Nasdaq Composite Index added 0.4% to 5870.75. But these numbers don’t really tell the story. The week was dominated by a huge Wednesday rally following Donald Trump’s first speech to a joint session of Congress on Tuesday night that drove the Dow up over 300 points and the S&P 500 higher by more than 30 points, their largest single day gains since November 7. Markets liked the president’s conciliatory tone and pro-business proposals as well as positive U.S. and Chinese manufacturing data released the following morning. Improving growth in developed and emerging markets is music to markets’ ears.
It is actually more accurate to say that investors are pouring money into ETFs than stocks. On the day after President Trump’s speech, $8 billion poured into the SPDR S&P 500 ETF (SPY), the largest daily influx since December 2014 according to Bank of America Merrill Lynch. Retail investors are now joining the rally as they always do in the late stages of huge market moves like the current one; unfortunately, these investors tend to be contrarian indicators and enter when markets are near their peaks. Brokers and wealth managers are reporting more calls from clients telling them to increase their investments into stocks, anecdotal evidence that people are afraid of missing out on the rally. Such performance chasing is often a sign that we are in the late stages of a rally.
At the same time, several members of the Federal Reserve’s Open Market Committee spoke last week and made clear they intend to raise interest rates by another 25 basis points in March. This shifted market perceptions that just two weeks ago were placing less than 40% odds on a March rate hike. The Federal Reserve officials who spoke, including Chair Janet Yellen, explained that the economy has strengthened sufficiently to justify a rate hike now, something they could have said more than a year ago.
As long as a rate hike is presented in the context of a strong economy, it should be greeted positively by the stock market and not dampen the animal spirits pouring money into stocks. While fears of higher rates have kept the Fed behind the curve, the economy and markets can handle another 1-1.5% of interest rate hikes as long as they are done gradually (i.e. 25 basis points a quarter). But the longer the Fed waits to normalize rates, the worse the speculation driving stock valuations to excessive levels will be.
Sentiment indicators remain at record levels. Investors Intelligence’s (II) highly respected polling shows bulls at 63.1%, the highest reading since 1987. This number has been above 55% for 14 straight weeks, which II calls the “danger zone.” Bears were down to 16.5%, the lowest figure since July 2015, putting the bull-bear spread (i.e. the ratio of how many people are bullish to how many are bearish) at 46.6%, the highest for the current cycle and another contrarian indicator. From a technical standpoint, the market looks okay – breadth and transportation stocks look solid. But valuation levels are very extended with the S&P 500’s trailing P/E at 22x and the Shiller Cyclically Adjusted P/E at just under 30x versus a mean of roughly 16x. While these levels don’t prevent the market from continuing to rise, further gains would be detached from valuations and fundamentals.