Name That Trade – $IYT: Those Aren’t Pillows

by Dan July 20, 2015 2:40 pm • Commentary

In this weekend’s Barron’s there was a great QnA with the CIO of Bessemer Trust, Rebecca Patterson that is well worth a read, Why Bessemer Trust’s Chief Investment Officer Is Still Bullish.  An answer to a question about trucking stood out to me that I thought was worth breaking down a bit more:

Barron’s: What does the trucking industry, which you wrote about in a recent letter to clients, tell you about the economy?
Patterson: Trucking is one of the best leading indicators on the consumer. Trucking volumes for retail-related trucks, also known as truckload carriers, tend to lead retail sales in the U.S. by a couple of months. Everything we buy at some point touches a truck. People talk about the Dow transports and how rail isn’t doing well right now. Well, that’s one piece of the economy—that’s industrial and manufacturing, and a lot of it is tied to the oil selloff last year and the ripple effects we’re still feeling from that. But consumption is a much bigger part of the U.S. economy. When you look at the appropriate part of the Dow transports, it tells you that the sector of trucking tied to retail goods is actually doing pretty well.
Rebecca is a star, she used to be a panelist on a currency show that was on after CNBC’s Options Action on Fridays, and I frequently had the pleasure to discuss the markets with her. So I’ll start with this, who am I to question the views on trucking of Rebecca, who runs investment strategy for a $57 billion asset manager to ultra-high net worth individuals?
But let me take a quick shot for shits and giggles. Patterson discounts the weakness in the rails as tied to energy, I get that, with CSX down 11% ytd and KSU, NSC and UNP all down about 20%, as energy weakness is clearly taken its toll.
Airlines though, should be fairing better after the bounce off of the Q1 lows, but they’re faltering now, with WTI crude futures touching $50 for the first time since April, AAL, UAL and LUV are all down about 25% from their 2015 highs.
UPS has been the poster-child for large cap transport weakness, down 15% since making a new all time highs in January. And even FDX, which is only flat on the year is now down 8% from the all time highs it made last month since missing fiscal Q4 results in June.
And then truckers. JBHT is flat on the year, but down 10% since making new all time highs in April.  SWFT down 20% on the year, despite trading at 13.6x this year’s earnings expected to grow 22%.
You get the point. I am not sure what I am missing here, but it seems that Transport stocks are acting as if we are on the precipice of an economic downturn here in the U.S.   The IYT, the IShares Transportation average etf. which FDX and UPS make up 20% of the weight appears to be a short on rallies as long as commodity prices remain weak, and retails sales continue to disappoint, despite the decline in oil serving as a benefit on the input side.
Its my view that the deflation in commodity prices is not a good thing for the global economy, and it speaks to both oversupply and lack of demand, at a time, as Patterson references in the QnA, our own expansion is reached about the average length of time in the post war environment, about 7 years.
The etf remains in a nasty downtrend, and has failed on numerous occasions at its 50 day moving average since April:
[caption id="attachment_55460" align="aligncenter" width="600"]IYT 1 yr chart from Bloomberg IYT 1 yr chart from Bloomberg[/caption]

We think it makes sense to wait for one more test of the 50 day moving average, at about $150 and then look to do the following trade, targeting the low made earlier in the month:

Hypothetical Trade: IYT ($148) Buy Aug 148/140 Put Spread for $2, risk $2 very near the money to possibly make $6, or about 4% if the etf is $140 or lower.

Options in IYT are not that liquid, and we are going to continue to look for other ways to express a bearish view in transports, but gun to my head here, this is the trade.