Is the Trump trade in transports losing steam?

Transportation stocks got a huge boost from the election of President Trump, but now one big investor thinks a key company in the sector is near the end of the line.

Given the President’s campaign promises to boost the economy with tax cuts and infrastructure spending, investors flooded money into companies that typically benefit from quicker growth. That meant industrials, banks, construction firms -- and especially transports.

However, one by one, beneficiaries of the Trump rally have been running out of gas.1 Small-cap stocks hit the wall in February, financials rolled over in the last two weeks, and airlines have lost altitude after stalling at 15-year highs in December.

Yesterday’s options activity seemed to reflect a similar sentiment toward railroad operator CSX (NYSE: CSX), which is up 45 percent since the election. A trader purchased 5,000 April 46 calls for $1.84 and sold 10,000 of the April 50s for $0.37. That translates into a cost of $1.10 per contract, or $550,000 in total.

Known as a ratio spread, the strategy is designed to capture a rally of limited strength, but will then trigger selling an even larger position. It works by the calls fixing the price where a security can be bought. Owning 5,000 is equivalent to holding 500,000 CSX shares. Selling 10,000 contracts renders them short 1 million shares if the stock closes above $50 on expiration. CSX closed down 0.73 percent to $46.11 on Thursday.

CSX (CSX) 6-month chart

Source: OptionsHouse by E*TRADE

While it looks like the investor has risk of infinite losses to the upside because of the larger short position, such trades are frequently done in conjunction with an underlying holding in the stock. In this case, they could own 500,000 shares and see little chance of a move significantly above the recent all-time high near $50. Without the ratio spread, they’d make an incremental $2 million from a rebound to that level. With the spread, their profits at $50 would be juiced an additional $1.45 million:

  • The spread is $4 wide ($50 - $46)
  • They own 5,000 contracts
  • Each contract controls 100 shares
  • 4 X 5,000 X 100 = $2 million. Then subtract the $550,000 cost = $1.45 million.

The trade occurred the same session transport rival Norfolk Southern (NYSE: NSC) was downgraded by RBC Capital on concerns that there are few remaining opportunities for efficiencies and cost cuts.2 It’s also noteworthy that CSX’s options expire the same week it’s expected to report earnings. That suggests the investor is willing to sell into any spike that may follow a positive set of numbers. 

One final note on CSX: The stock’s all-time high of $50.31 early on March 7 was followed by an afternoon selloff, producing the same kind of bearish engulfing candle recently detected in major banks. 

In summary, CSX has pulled back slightly after a big run, and now one big investor likely believes this transport is near its peak.

1. Why one bullish strategist is calling for a correction. 3/23/17

2. Rails derailed? RBC Downgrades Norfolk Southern On 'Unappealing' Risk/Reward. 3/23/17