Name That Trade $CMI – Wrong Place at the Wrong Time

by Enis July 29, 2013 2:06 pm • Commentary

My trades in CMI this year are a good lesson in perspective.  From my vantage point, Cummins is an overvalued industrial company with a poor earnings outlook given its heavy international exposure.  Chinese policymakers continue to be focused on shifting the economy away from fixed investment and towards consumption.  Not surprisingly indicators of Chinese industrial growth have rapidly slowed, with knock-on effects on industry everywhere.  Data continues to confirm that.  CMI is just in the wrong place at the wrong time, in my view.

But I’ve had this view for the entirety of 2013, and CMI is up 7% year-to-date.  Other investors clearly disagree with me, likely due to their optimism regarding the long-term story, despite the near-term headwinds.  Consensus estimates for 2015 calendar year earnings are $11.24 (vs. $8.61 earned in 2012, and around $8.00 projected for 2013).  So even though earnings are down year-over-year by almost 10%, CMI’s stock is up more than 20% in the last year.  Again, optimism about the long-term timeframe.

Funnily enough, the asset manager who has been overweight CMI this year is also likely frustrated, since it’s a major underperformer relative to the rest of the market.  I’ve actually had some success trading CMI this year (here, here, and most recently here), but I’m still quite frustrated with this stock, as I keep expecting continuation to the downside, only to see it bounce right back.  The 1 year chart shows how the stock is in the middle of its 2013 range (103.41 to 122.54):

Chart of CMI in 2013, 200 day ma in black, Courtesy of Bloomberg
Chart of CMI in 2013, 200 day ma in black, Courtesy of Bloomberg

CMI reports earnings tomorrow morning before the open.  Analysts are expecting Q2 EPS of $1.98 per share, compared to $2.41 in 2011 and $2.45 in 2012.  In that sense, the bar is relatively low, but the stock missed in Q1 as well, and again, trends look weak.  

I’m still bearish on this stock.  But I’m wary of taking a trade just ahead of earnings considering the willingness of investors to continue to look past near-term headwinds.  If I were to do a trade today, this would be my structure:

  • Buy the Sept 115/105/95 Put Fly for $2.25

CMI is one of the few stocks that has exhibited periodic selloffs this year, given traders an opportunity to make money in both directions.  As the stock approaches the high end of its yearly range, I like a trade that targets the low-end of that range over the next 7 weeks.  Once again though, I decided not to pull the trigger myself ahead of the earnings release.