The Trump trade in stocks may be down, but don't count it out, yet.
In the hours after President Donald Trump claimed victory last November, a group of infrastructure, financial, defense, and U.S.-focused stocks began to rise on hopes that his policies would boost fiscal spending and juice corporate profits with tax breaks. Small caps also gained.
But now many of them are lagging as traders worry Trump and Congress will be distracted from moving on his pro-growth policies by the investigation into the Trump campaign's ties to Russia.
Strategas says a case can be made for some, if not all, of those stocks to rally in coming months. The first group of stocks to make a comeback could those that benefit from actions Trump can make or has made without Congressional votes.
"There are stocks that are going to be impacted by regulatory changes that have nothing to do with Congress," said Daniel Clifton, head of policy research at Strategas.
Strategas has created a portfolio of 25 companies that would benefit from Trump's agenda on fiscal spending, deregulation and taxes. Clifton said companies that stand to benefit from regulatory changes and those that need Congressional action have all fallen in the portfolio. "There's a bit of bifurcation happening among the ones that sold off, related to Trump. There's going to be an opportunity in the short run on companies impacted by regulation, not legislation," he said.
Source: Strategas Research
For that reason, financials, up just 1.5 percent year-to-date, could gain because the regulatory changes possible without legislation, could help them. Regional banks would be particularly boosted by changes to some of the stress test requirements. Other sectors should benefit too, like energy infrastructure since Trump has cleared the way for more pipeline approvals.
The Trump administration also included infrastructure spending with its budget this past week, and Clifton said it's possible that there will be an initiative to push it through in some form, since it could have bipartisan support.
Infrastructure could ultimately be a political bargaining chip if Republicans need Democrats to avoid a debt ceiling crisis when the U.S. nears the limit this fall.
"It's likely to be a bi-partisan deal—defense for infrastructure for debt ceiling deal," said Clifton, adding he does see potential for infrastructure spending.
The Trump trade in individual sectors and small caps has faded, even as the broader stock market grinds to new highs. Many small companies pay a higher corporate tax rate than large companies do and would benefit if Congress was able to move forward with plans to significantly cut the corporate tax rate from 35 percent. Small caps also make most of their revenues in the U.S.
But those pro-Trump agenda trades are no longer hot, as it looks like even the Republicans can't see eye to eye on legislation, based on disagreements around the health care bill, which barely passed the House and won't pass the Senate in its current form. Without tax reform, there won't be the boost investors were hoping for any time soon. Those same concerns have taken the "Trump trade" out of the dollar, which has lost all the gains it made since Election Day.
The same can be seen in interest rates, as Treasury yields moved lower amid uncertainty and are well off their post-election highs.
Steven DeSanctis, equity strategist at Jefferies, looked specifically at how small caps have reacted to the Trump trade unwind. The small cap index, Russell 2000 is up just 1.8 percent year-to-date, versus 7.8 percent for the S&P 500.
"Every once in a while, it bounces back, and you see some of the groups perform better. But we've seen outflows from financials…outflows from materials and industrials…That is not Trumpesque," he said.
There was also the greatest divide between the best and worst performing small cap sectors to start the year, since 2009, he said. Earlier this week, small cap energy was down more than 19 percent and health care, including small cap biotech, up 11 percent.
"It just shows you that if you could pick sectors, you could do pretty well because the spread is a pretty big gap. Energy has been such a big laggard after such a good fourth quarter in 2016. People were bulled up on energy coming into this year and they really lost faith in the group," said DeSanctis. He said he likes financials and sees the selling as overdone. He too says the financial group could benefit from changes in regulation, but also interest rate hikes.
Source: Strategas Research
Clifton says there's one big motivating factor that could bring Republicans together to drive through tax reform. That is fear that they could lose their majority in the 2018 mid-term election.
"If Republicans can figure out a way to pass a FY 2018 budget, and put together a coherent tax plan, expectations may begin to reverse," Clifton notes.
Already, the Freedom Caucus has criticized spending in the president's budget, setting up for a battle between House. That could also carry through to a clash with some Senate Republicans who would rather work with Democrats
than see deep cuts.
Treasury Secretary Steven Mnuchin has asked Congress to raise the debt ceiling to avoid a dramatic showdown in the fall, but the Freedom Caucus said it would not back it, and said the U.S. government would "spend into oblivion."
"The madness happening in May, June, July and August will create a path forward for legislative activity in September, October and possibly tax reform in the first quarter of 2018, and that's where the opportunity is going to be," said Clifton.
The Strategas Trump portfolio includes names in the defense sector, which has gained 2.5 percent this week, after Trump's visit to Saudi Arabia included major defense deals. Lockheed Martin is one name in the portfolio.
United Health is also included, since it could benefit if Republicans replace Obamacare. Martin Marietta Materials, an infrastructure play is another component, as well as some biotech names. There is also aluminum and steel, representing trade.
Quanta Services is an energy infrastructure play in the portfolio. Several companies with a lot of overseas cash were also included, since they would be encouraged by any corporate tax law changes to bring their money home and then be set to benefit from a lower corporate tax rate.
Watch: Trump's $2 trillion budget mystery