Cramer throws a red flag on prison and gun stocks

Cramer throws a red flag on prison and gun stocks

Donald Trump's stunning victory for the White House triggered a massive rotation in stocks, and Jim Cramer warned that investors have overreacted on private prison operators and gun makers.

"After Trump's surprise victory, the private prison stocks roared higher, but I don't think a Trump presidency fixes their long-term problems," the "Mad Money" host said.

Prison stocks rallied harder than any other group after Trump won, as both President Obama and Hillary Clinton disliked the for-profit prison business. On the other hand, gun makers were slammed, as typically gun sales surge when a Democrat wins the presidency as customers try to buy weapons before more restrictive gun laws are passed. Given the Republican sweep that occurred, the same urgency was not there.

"While there is some logic behind the rally in the private prison names and hideous decline in the gun makers, I feel like this is a case where you don't want to you take your cue from the crowd's immediate reaction, because for me it feels very short-sighted," Cramer said.

I feel like this is a case where you don't want to you take your cue from the crowd's immediate reaction, because for me it feels very short-sighted.
Jim Cramer
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Two large publicly traded prison plays are Corrections Corporation of America, which is rebranding itself as CoreCivic, and Geo Group.

Both stocks had strong performance the last time there was a Republican in the White House, until the financial crisis in 2008. They also did pretty well under President Obama for a while, but then they peaked in early 2015 as the industry came under more scrutiny.

In August, Obama's administration announced that the federal government would phase out the use of private prisons, which is a significant portion of business, and the stocks fell sharply. However, both stocks snapped back on the news of Trump's win.

"Some of this is because Trump ran on a law and order platform that suggests his Justice Department might be sending more people to prison," Cramer said. "But mainly it's about illegal immigration."

Both Corrections Corp and Geo Group have contracts with the Immigration and Customs Enforcement (ICE), which could mean more business for these companies.

Cramer is skeptical of the rally in both stocks, as Trump has already started to moderate his tone on the deportation issue. Additionally, Republicans may be looking to cut costs at the federal and state levels. Cramer wouldn't be surprised if they start with private prison contracts.

"In the end, these companies have very high debt loads with not much cash, and they both have sky-high dividend yields, which I see as a big red flag," Cramer said.

As for gun makers, Cramer thinks these stocks sold off way too hard. Sturm Ruger and Smith & Wesson both sold off on the news of Trump's win last week.

While there is no question that having the GOP in power is better for the gun industry long-term, fears of gun control laws could lift sales in the short-term, Cramer said. However, he is now confident that it won't happen for the next four years, which could be good for the stocks.

"Gun makers got slammed because everyone was expecting their sales would surge after Hillary got elected, but I say that's crazy — they may not get a short-term bounce, but they have got long-term stability," Cramer said.

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