The Constitutional Catalyst

Executive Summary

The Supreme Court is expected to rule on presidential tariff authority within days, with prediction markets assigning 72-77% probability that the IEEPA tariffs are struck down. While this appears to present a tradable directional edge, the risk-adjusted case for pre-event positioning is weak.

Five factors argue against active positioning:

First, the base case is already substantially priced in. XRT (a retail sector ETF that tracks companies like Target, Costco, and Best Buy) has rallied 5% year-to-date to 52-week highs, implying the market has already discounted approximately 75% of the expected relief. The entry point for this trade has long since passed.

Second, the upside scenarios are not distinguishable ex ante (meaning: before the event occurs). The difference between a narrow statutory ruling (estimated +2-4% on retail) and a broad constitutional ruling (+6-10%) represents hundreds of basis points of potential return variation, but prediction markets do not distinguish between these outcomes, and fundamental analysis provides no reliable edge in probability assignment.

Third, the policy response will likely outrun retail execution speed. The administration has articulated workarounds via Section 122 emergency tariffs (a rarely-used provision allowing the president to impose temporary 15% tariffs for 150 days during balance-of-payments emergencies) and Section 301 investigations (the authority used for existing China tariffs, which requires a formal investigation period of 9-18 months). Any relief rally may compress into hours rather than days, with institutional event-driven pods (hedge funds that specialize in trading around catalysts like court rulings and elections) exiting before retail flow can react.

Fourth, options structures are mispriced relative to the base case probability distribution. A $90/$100 call spread requires an 11% move to reach maximum profit, yet the probability framework assigns only 10-15% to the constitutional ruling that would produce such a move. The premium paid reflects a tail scenario (a low-probability, high-impact outcome), not the modal outcome (the most likely scenario).

Fifth, post-ruling deployment opportunities are likely to be superior. If tariffs are struck on narrow statutory grounds, the subsequent workaround announcement will create buying opportunities as the initial relief fades. If tariffs are upheld, the selloff will create asymmetric long entry points (situations where the potential upside significantly exceeds the downside risk). Cash in this context represents optionality (the flexibility to act when conditions improve), not to be confused with opportunity cost.

The analysis that follows provides scenario frameworks, position structures, and risk management guidance for institutional investors and those who elect to position regardless of the above considerations. For the majority of readers, the recommendation is to wait.

Quick Decision Framework

The recommended action depends on your risk tolerance:

Conservative investors: Follow the Executive Summary. Wait for the ruling, let the volatility settle for 1-2 trading days, then evaluate whether the market has overreacted to a narrow statutory ruling or a Congressional invite scenario. The post-ruling dip may offer better entry points than pre-event positioning.

Aggressive investors (NOT RECOMMENDED): The Feb $90/$100 call spread on XRT has negative expected value. At ~$3.50 cost for $6.00 max payout, you need the constitutional outcome (10-15% probability) to profit meaningfully. The math: 15% × $2.50 gain minus 85% × $3.50 loss equals roughly -$2.60 expected loss per spread. Partial wins in statutory scenarios reduce this to approximately -$0.90, but this remains a losing proposition in expectation. Disciplined traders should skip this trade entirely. If you insist on pre-event exposure despite negative EV, size it at no more than 1% of capital and treat the premium as an entertainment expense, not an investment.

Both paths require accepting that the timing may not cooperate: if no ruling emerges by January 21, the spread faces accelerating theta decay into February expiration, and even a correct directional thesis may result in capital loss.

Institutional Addendum: Scenario Analysis and Position Framework

The following analysis is intended for investors with the execution infrastructure and risk tolerance to manage binary event exposure.

Position Framework

These assume allocation for this event specifically and not overall portfolio positioning.

Path A: Ruling Trade (100% Cash)

Logic: If the thesis is "this event is not tradable for retail," cash is the only consistent implementation. Deploy after both ruling and workaround are announced.

Post-Ruling Deployment Triggers:

• VIX drops below 18 (binary premium exhausted)
• 5-day realized volatility on XRT compresses below 20%
• Section 122 emergency tariff details announced (workaround clarity)
• If Congressional invite then wait for committee assignment and draft language

Path B: Litigation Investment (5-10% COST, 90-95% Cash)

Logic: COST is a good stock that happens to be a plaintiff in tariff refund lawsuits, not a lawsuit that is a good stock. The refund thesis is a 2027 story—6-18 months for CBP processing with potential additional litigation even after favorable ruling. This is only marginally a SCOTUS catalyst trade and is primarily a long-term quality position with litigation optionality.

Sizing Rationale: At 45x forward P/E, you are not buying tariff optionality—you are buying a quality multiple at quality prices. The 80 bps margin improvement from refunds is material but not transformative on its own and the stock will still need to perform relative to peers.

Path C: Event Convexity (1-2% XRT Spread, 98-99% Cash)

Logic: This trade has negative expected value. At current pricing (~$3.50 cost, $6.00 max payout), you are paying for a 10-15% probability event. Even accounting for partial wins in statutory scenarios, expected loss is approximately $0.90 per $3.50 risked. We include this structure only because some readers will seek pre-event exposure regardless—but disciplined capital allocators should prefer Path A (100% cash) or Path B (quality equity with litigation optionality).

If you proceed anyway: Size at 1% of risk capital maximum. Treat the premium as sunk. If constitutional ruling materializes, the tranche returns 150-185%. If statutory or upheld, accept partial or total loss. Do not average down or roll the position.

The Thesis

The market has identified the likely outcome and prediction markets assign 72-77% odds that the Supreme Court strikes down Trump's IEEPA tariffs. Retail stocks have rallied accordingly, with XRT up approximately 5% year-to-date against S&P +1%, now trading at $89.84.

The Problem is Timing

Capital was positioned for a January 9 ruling that failed to materialize and now faces eroding options premium ahead of the next potential ruling opportunities: January 14, January 15, and January 21. Each delay costs money on short-dated structures even when the underlying thesis remains intact and ultimately proves correct.

The market asymmetry lies in scope, not direction. A narrow statutory ruling would allow the administration to implement workarounds via Section 301/232/122 authority within hours, weeks, or months, meaning the tariff regime stays largely intact (if reduced initially) even in defeat. A broad constitutional ruling, by contrast, would constrain executive trade authority for a generation and remove the workaround path entirely.

Critically, the market appears to be pricing in a win but not a durable one. If prediction markets are 75% confident in a strike-down and XRT has only rallied 5% year-to-date, the implied upside on the favorable outcome is modest—roughly +2-4%, not +10-15%. This price action suggests the market expects the narrow statutory ruling rather than the constitutional home run, meaning the relief trade has already been largely captured at current levels.

The Case: Learning Resources v. Trump

The consolidated cases challenge whether the International Emergency Economic Powers Act grants presidential authority to impose tariffs. The administration invoked IEEPA to declare trade deficits and fentanyl trafficking "national emergencies," justifying the April 2, 2025 "Liberation Day" tariffs.

Procedural History (Unanimous Against Administration)

Both lower courts held that IEEPA's authority to "regulate" imports does not include tariff imposition, a power constitutionally reserved to Congress under Article I, Section 8.

Oral Arguments

The November 5 arguments revealed bipartisan skepticism from Trump's own appointees:

Justice Gorsuch: "Congress, as a practical matter, can't get this power back once it's handed it over to the president."

Justice Barrett: Pressed Solicitor General Sauer to identify any statute where "regulate importation" was interpreted to include tariffs—he could not.

Chief Justice Roberts: "The power to impose tariffs has always been the core power of Congress."

Prediction markets moved 20 points against the administration following oral arguments and have since stabilized, indicating high confidence in the outcome (if not the timing).

Scenario Framework

Probability Distribution

The probability split between statutory and constitutional rulings is the critical analytical leap in this framework. Prediction markets show 72-77% odds of tariffs being struck down, but cannot distinguish between ruling types. Therefore the probabilities below are informed estimates, not market-implied values.

For the XRT Spread: Two Branches

For purposes of the Feb $90/$100 call spread, only one scenario matters:

The "everything else" bucket includes: statutory strike (+2-4%, spread breaks even or modest gain), Congressional invite (+1-3%, spread crushed by bid widening), partial strike (+3-5%, spread returns 50-80%), tariffs upheld (-8-12%, spread expires worthless), no ruling (flat, theta kills spread), and earnings miss before ruling (-4-6%, spread killed on fundamentals). For spread sizing purposes, treat this as a 10-15% probability bet.

For COST and Cash

Why Statutory Is Most Likely: The Court is likely aware that a broad constitutional ruling would box in future presidents of both parties, creating institutional resistance. Judicial restraint pushes marginal probability toward the narrower statutory interpretation because it is institutionally safer.

The Congressional Invite Scenario: Roberts has a documented history of narrow, institution-preserving opinions. Explicitly inviting Congress to clarify IEEPA's scope represents the path of least resistance for a Court that does not want to handcuff future executives. This outcome would create maximum uncertainty—spreads crushed by widening bids rather than directional movement.

Congressional Invite: Post-Ruling Alpha. If Roberts kicks to Congress, the legislative timeline creates a multi-week information cascade where research edge can be monetized. Key details:

The invite scenario is the worst outcome for pre-event positioning (volatile but directionless) but potentially the best for post-ruling deployment. Congress moves slowly and leaks constantly, creating a multi-week window where patient cash can deploy with genuine edge.

The No Ruling Scenario: The constitutional question could be kicked to next term, the Court could grant a stay pending administrative rehearing, or the administration could moot the case by withdrawing the tariffs. "No ruling" is a distinct scenario that kills all options structures while leaving cash unharmed.

The Workaround Reality

Treasury Secretary Scott Bessent has articulated contingency plans to maintain tariff revenue. Speaking at the December 2025 DealBook Summit, he expected a "mishmash" ruling and outlined workarounds:

"We can recreate the exact tariff structure with 301s, with 232s, with the — I think — a 122."

The workaround options are viable for maintaining revenue but significantly weaker for negotiating leverage. Trade Advisor Navarro has acknowledged: "Plan B will not be as good as Plan A." More importantly, approximately 45% of current tariff revenue — Section 232 duties on steel, aluminum, and autos — is legally separate and unaffected by this ruling.

Fiscal Context: The stakes extend beyond trade policy. Approximately $195 billion in 2025 tariff revenue is at stake, and if the $133-150 billion refund obligation materializes, it creates meaningful fiscal pressure on the federal budget. Refund logistics introduce additional friction: CBP will transition to mandatory electronic refunds via ACH beginning February 6, 2026 (interim final rule published January 2, 2026), and companies may face delays, bureaucratic hurdles, or discounts if selling claims to third-party purchasers. The refund timeline (6-18 months minimum, based on comparable trade remedy proceedings) means no immediate cash catalyst even for successful plaintiffs.

II. Costco (COST): A Good Stock That Happens to Be Suing

The Clarification: COST is not a tariff trade, it is a quality compounder with litigation optionality. Buying COST at 45x forward P/E means buying a quality multiple at quality prices.

Costco is an active plaintiff in the U.S. Court of International Trade, seeking a declaration that IEEPA tariffs are invalid and a refund of all duties paid. The company has the legal resources to pursue full recovery, unlike small importers selling claims at 20-30 cents on the dollar.

Valuation Reality

The Downside Risk

On a tariff uphold scenario, COST gaps down with the market. That 45x multiple compresses in a risk-off environment regardless of COST's defensive characteristics. The refund optionality is real, but it does not provide downside protection against the immediate catalyst.

III. XRT Call Spread: Defined-Risk Relief Expression

The SPDR S&P Retail ETF offers the purest expression of tariff relief, but the setup requires caution at current levels.

Current Positioning (as of January 9, 2026)

The Problem

XRT has rallied 5% over nine trading days on tariff relief expectations, and buying call spreads at all-time highs before a binary event where the bullish outcome is 75% priced in represents consensus positioning at elevated premium.

Crowding Interpretation: The 3.35 put/call ratio signals hedging demand (bearish sentiment), not squeeze potential. High put/call typically indicates retail traders buying calls, which creates dealer short gamma—that is negative convexity for the squeeze thesis. If institutions are long gamma (dealer hedged), the squeeze thesis weakens considerably. Everyone is in XRT. If consensus is 75% probability of relief and XRT is at 52-week highs, the position is fading the crowd at the top.

Strategy: Feb $90/$100 Call Spread (Recommended)

The wider $10 spread structure captures more of the probable move than narrower alternatives. However, at current IV levels (~28%), the premium is elevated—if the statutory ruling produces only a 4-6% gain on XRT, this structure returns approximately 50-100% on the tranche, not the theoretical maximum. The narrower $92/$97 spread offers lower premium but requires approximately a 4% move just to break even.

Simpler Alternative: Feb $92/$97 Spread

For smaller position sizes, the $92/$97 spread requires lower premium (approximately $1.00-1.50) and offers higher percentage return potential, but it requires approximately a 4% move just to break even. This structure is optimized for the constitutional home run scenario that the probability framework already underweights.

The Case

The out-of-the-money structure provides better risk/reward than at-the-money spreads. February expiration provides runway if the ruling extends to late January. The defined loss limits downside while capturing meaningful upside on a squeeze.

Gamma Positioning at the $90 Strike

Options flow data provides more specificity on the positioning:

Key Observations:

• OI is concentrated in Feb expiry (binary event focus)
• The $90 strike has the highest call open interest, suggesting dealers are net short gamma there
• Wings are not significantly overpriced relative to ATM; the vol smile is flat at ~28% across strikes
• The $90-$95 corridor is where dealer hedging flows would be most intense

The practical implication: if XRT breaks above $90 on the ruling, dealer hedging will accelerate the move toward $93-$95. But institutional pods holding the same calls will be selling into that strength, creating a ceiling. The window for outsized gains is measured in minutes, not hours—which is why the 1-2% sizing and immediate profit-taking matter.

Theta Burn: Cost of Delay

Each day without a ruling erodes spread value through theta decay. At current IV (~28%) and 30 DTE:

The acceleration is non-linear which means that if no ruling by January 21, the spread has lost one-third of its value before the catalyst materializes. This is why the No Ruling scenario (10-15% probability) deserves primary-branch status: it kills the trade without any directional information.

The Risks

Timing uncertainty is the primary risk in this trade. Each day of delay erodes premium through theta decay and if the ruling extends to late February, the spread expires worthless regardless of outcome. The 5% YTD rally means partial upside has already been captured.

Profit-Taking Rule: The Bessent workaround is likely to be ready for immediate execution via Section 122 emergency tariff. If the Supreme Court strikes down tariffs at 10:00 AM and the White House announces the emergency tariff at 10:15 AM, the relief rally could compress to minutes. If XRT spikes more than 4% on the headline, close at least half the position immediately using market orders—liquidity will be chaotic during that window.

Trading the Ruling vs. Investing in Refund Litigation

These are distinct strategies with different time horizons and payoff functions:

The XRT spread is a ruling trade: it profits only if the catalyst materializes within the options window and produces sufficient magnitude. COST shares are a litigation investment: the refund thesis plays out over quarters regardless of ruling timing.

Conflating these strategies leads to position sizing errors. The conservative path is correct for ruling trades (100% cash until clarity). The moderate path is defensible for litigation investing (COST exposure regardless of timing). Blending them—buying XRT spreads while also holding COST—creates a portfolio that is overexposed to a single catalyst with different payoff functions that do not hedge each other.

IV. Why the Conservative Path Recommends High Cash

The operating framework for these allocations is risk-adjusted return given timing uncertainty — not maximum expected return.

The Case for Patience

• The ruling did not materialize on January 9, and it may not materialize on January 14 either. Each delay validates the cash position while eroding options premium for those who positioned aggressively.

• The base case is substantially priced in. XRT's 5% year-to-date gain already reflects approximately 75% probability of relief. Aggressive positioning at current levels is effectively paying for a move that has partially already occurred.

• Post-ruling opportunities are likely to be superior. If tariffs are struck down on narrow statutory grounds, the subsequent workaround announcement will create a buying opportunity as relief fades. If tariffs are upheld, the selloff will create asymmetric short opportunities.

• Implied volatility crush is material. Binary events destroy implied volatility regardless of direction, and cash deployed post-ruling avoids paying the binary premium embedded in current option prices.

Opportunity Cost: What You Are Giving Up

The question is what alternative deployment the cash is foregoing. Specific trades that would require this capital:

If the answer is "I would deploy this capital to other trades with better risk/reward," then the opportunity cost of holding cash for this event is real. If the answer is "I have no better ideas," then the cash allocation is correct regardless of FOMO.

V. What Not to Own

Steel (NUE, CLF): Not a Clean Expression

Morgan Stanley on January 9 downgraded Nucor to Equal Weight and upgraded Cleveland-Cliffs to Overweight in moves driven by steel fundamentals (HRC pricing dynamics, POSCO partnership) rather than SCOTUS speculation. Section 232 tariffs on steel (50%) are legally separate from IEEPA authority and remain unaffected by this ruling regardless of outcome. Steel does not function as a hedge against tariff uphold because the steel protection floor remains intact in all scenarios.

China ETFs (FXI): Wrong Catalyst

Section 301 tariffs on China (approximately $370 billion in goods at 25-100% rates) persist independent of IEEPA authority. A favorable ruling in Learning Resources v. Trump removes only the "Liberation Day" universal tariffs, not China-specific duties. China exposure is complex and fundamentally disconnected from this specific ruling.

Defense Contractors: Mixed Signals

Defense stocks benefit from tariff revenue funding military budgets, creating an unusual dynamic. If tariffs are struck down and the $133 billion refund obligation materializes, it creates fiscal pressure that could affect defense appropriations. Lockheed, Northrop, and RTX face headline risk regardless of the actual budget impact.

Other Retailers (TGT, WMT): Not as Clean as COST

Target and Walmart have tariff exposure but weaker positioning for the refund trade relative to Costco. Higher private-label exposure means more supply chain complexity in tracking tariff-eligible imports. Neither company has taken an aggressive litigation posture, effectively waiting for others to clear the legal path. Weaker balance sheets relative to COST's fortress cash position limit their ability to pursue full recovery through extended legal processes. For direct refund exposure, COST remains the cleaner expression.

VI. Crowding Analysis

Where Capital Has Concentrated (Reduce Exposure)

Who Is Crowded: The unwind dynamics depend critically on whether the positioning is concentrated among event-driven pods at multi-strategy funds or among retail traders. If the positioning is institutional, pods will exit simultaneously on a narrow ruling, creating a liquidity vacuum that could trap late sellers. If it is primarily retail, the unwind will be slower and may sustain the squeeze thesis for longer. Options flow data suggests the $90 strike is partially dealer-hedged, meaning gamma dynamics could amplify moves in either direction. The recommendation to use market orders on exit accounts for this dynamic, but traders should expect 5-15 cent slippage on the spread during volatile moments.

Where Opportunity Exists

VII. Execution

Entry Timing: Scale In Rather Than Full Deployment

The thesis rests fundamentally on timing uncertainty. Given that the ruling could arrive on January 14, 15, or 21, and that each delay erodes options premium, a scaled entry approach merits consideration:

• Monday January 12 (50% of intended position): Deploy half of the COST allocation and half of the XRT spread allocation to capture pre-event convexity while preserving flexibility.
• Post-ruling (remaining 50%): Deploy the remainder after clarity emerges on the ruling's scope and market reaction. For those on the Conservative path, this post-ruling deployment constitutes the entire strategy.

This approach maintains the dry powder principle while still allowing participation in any potential squeeze dynamics.

Key Dates

Exit Strategy

VIII. Strategic Additions Worth Considering

Customs Brokers (CHRW, EXPD): In the event tariffs are struck down, customs brokers would see immediate volume increases as importers rush to file refund claims with CBP. These names also benefit from workaround scenarios, as Section 301 investigations create consulting and infrastructure revenue streams. C.H. Robinson and Expeditors represent cleaner expressions of administrative complexity than indirect macro hedges.

Section 232 Pairs Trade: Approximately 45% of current tariff revenue (steel, aluminum, and autos) is unaffected by this ruling, which creates a potential pairs trade structure: long XRT against short XME (metals and mining). In a statutory strike-down scenario, the workaround pressures steel prices through increased imports while benefiting retail. In a constitutional ruling, both legs rally but retail outperforms significantly. In an upheld scenario, steel protection remains intact while retail declines. Note that XME options liquidity is thin, making this structure more appropriate for institutional-sized positions than retail accounts.

Timeline Mismatch Risk: Q4 earnings season begins this week, introducing a meaningful risk that must be acknowledged. If Target or Walmart guides down on margins and the ruling is delayed again, XRT could retrace 4-5% on fundamentals alone, crushing the spread position before the catalyst materializes. The scenario to consider: no ruling by January 21 combined with a retail earnings miss results in XRT trading at $84, the spread expiring worthless, and the thesis remaining intact but the capital being dead. The Conservative path's 85% cash allocation is the only configuration that survives this outcome, which raises the question of whether the real alpha lies in acknowledging that this event may not be tradable on these timelines.

Earnings Season Overlap: Costco reports in early March, after the February options expiry but within the refund timeline. If the company misses on margins due to tariff pressure but guides up on refund optimism, the stock could trade sideways for an extended period. There is a meaningful probability that the tariff ruling gets completely overshadowed by a broader retail earnings disappointment cycle.

Disclosures: This newsletter is for informational purposes only and does not constitute investment advice. The author may hold positions in securities mentioned. All investments involve risk, including possible loss of principal. Options trading involves substantial risk and is not appropriate for all investors. Past performance does not guarantee future results.