Last week ended on a high note as equities sprinted to close higher on Friday. The S&P 500 was up better than 1.4% while the Nasdaq was up three quarters of one percent. The rally was broad-based for a change with the Russell 2000 up 3.6% on the day and beaten-down sectors such as energy rallying strongly as well.
One catalyst for the rally was a strong May jobs report from the Bureau of Labor Statistics that showed 339,000 jobs created last month, far above the 190,000 expected. Not to rain on any parades, but some caution is warranted around these numbers. The household survey for May showed a drop in employment of 310,000, with the unemployment rate rising to 3.7%. Keep in mind the BLS report does not take into consideration individuals working two or even three jobs to make ends meet. The Household Survey does. Regardless, it was good to see a rally with some breadth to end the trading week.
That said, the main concerns I have about the economy have not gone anywhere despite equities' best week since March. Among my primary worries are a deeply inverted yield curve, a manufacturing sector that has been in contraction territory for six straight months now after 30 straight months of expansion, and the leading economic indicators continuing to point to recession ahead.
My view is either the rally spreads out or the overall market has some sort of hiccup over the summer, the latter the likelier of the two scenarios. Either way, the mega-caps that have led the rise in stocks so far in 2023 should come under pressure. Therefore, late Friday I started to add some stabilizers to my portfolio. These took the form of out-of-the-money bear put spreads on a couple well-known large-cap concerns.
First, I targeted Walmart (WMT) with September $140/130 bear put spreads for a net debit of $1.25 a share. Shares of Walmart trade just under $149 apiece. The stock trades at nearly 24x trailing earnings with a paltry 1.5% dividend yield even though both revenue and earnings are projected to fall slightly in fiscal 2023. Also, Walmart is facing the headwinds that forced retailers such as Macy's (M) and Best Buy (BBY) to cut guidance this earnings season. A pullback in the low teens by the end of summer by the stock will deliver an eight-to-one return and a small loss if that scenario doesn't play out.
I did something similar with Apple (AAPL) using October $170/$155 bear put spreads for a net debit of $2.50 a share. Apple currently trades just over $180 a share. Like Walmart, both earnings and revenue at Apple are expected to post slight declines this year. Yet somehow the market gods have rewarded the tech giant with a valuation of 30x earnings as the stock has climbed about 45% so far in 2023. If rationality creeps into the market by the start of fall and AAPL gives back a third of year-to-date gains I will have scored a cool six-to-one return.
The worst-case scenario for me is these option positions expire worthless and I take small losses, in which case the rest of my portfolio has probably also advanced. If the overall market sees a decent pullback, the big gains from these positions will nicely offset other portfolio losses, which I why I call these sort of trades stabilizers.
