Dow Inc. Dividend Yields 4.62%; Covered Calls Yield 32.25% Annualized; Puts Yield 8.9% Annualized
The strategy is simple. Pick good under valued dividend stocks. We pick stocks with active and liquid options that can be used to generate income by selling covered calls and puts.
By Donald E. L. Johnson
Cautious Speculator
DOW pays a 4.62% dividend.
Selling covered calls gives a 32.25% annualized return on risk.
Selling cash secured puts generates additional income at about 8.9% return on risk.
Selling puts is a way to get a discount on additional shares if the puts are assigned at a lower price.
DOW’s chart is starting to look a bit bullish, which is good for buying stocks and selling covered calls and puts. Selling puts is a bullish trade.
There are four simple ways to generate income from a stock that has active, liquid and deep options. Dow Inc. (DOW), a blue chip DJI 30 index member, is that kind of stock.
Buy the stock for $60.63, or $6,063 per 100-share option, and collect $2.80 per share in dividends. Hope for capital gains long term.
Buy the stock, collect dividends and sell DOW 3.25.22 expiration $63 strike (delta .29) covered calls for about $0.75, or $75 per calls option. That represents a 1.24% RoR, or a 32.25% annualized RoR if the trade could be done 26 times over the next 12 months. It can’t because the stock probably would be called sooner than later, and price fluctuations make it impossible to exactly replicate a successful trade. A covered calls trader might be able to sell OTM covered calls 26 times a year for a 10% to 15% annualized return plus the 4.62% dividend.
Sell DOW 4.14.22 $52.50 strike (delta -.13) cash secured puts for about $0.53, our $53 per puts option. That provides about a 8.9% “annualized” RoR. The margin of safety ($60.23-$52.5) is about 12.8%. In other words, should the stock drop below $52.50, the puts would be assigned to the puts seller at $52.50, or at 12.8% discount from the current price of $60.23.
Buy the stock, write the calls and sell puts at a strike that might average down the price of the investment if the puts are assigned.
I frequently do number four, which is what I’ve done with DOW several times in recent months. When you buy a stock and sell puts on the same number of shares that you bought, you tie up the money invested in the stock plus the cash required to secure the puts at the strike price times 100 shares per puts option sold. How an investor trades stocks and options depends on her risk tolerance and financial situation and income goals.
Should the stock drop and be assigned (sold to the puts seller) at $52.50, or $5,250, the total investment would be $11,251.19 for 200 shares. The average cost would be $56.26 per share. The dividend on the lower average cost would be 4.98%. The net debit would be $56.26 -0.75-0.53, or $54.98. The total investment would be 200 shares times $54.98, or $10,995.19. The dividend yield on the net debt would be about 5.09%.
If the puts are assigned, a trader would roll forward the covered calls trade on 200 shares, or 2 call options instead 100 share and one option. Every time dividends and premiums are collected, the net debit per share falls by the amount of the dividends and the calls premiums per share.
Rolling a trade is done after an options trade expires and the speculator decides to do about the same trade or trades on the same stock again with a new and further out expiration date. Trades that expire March 11 could be rolled to March 18 or April 14 expirations.
While selling covered calls and cash secured puts are separate trades, it often makes sense to do both calls and puts trades on the same stock at the same time. If you’re going to research and trade a stock, you might as well get paid for doing the work in as many ways as possible.
Collecting dividends plus premiums on calls and puts plus, hopefully capital gains is a nice way to maximize your return on risk and your return on the time you invest in doing the trades on a stock.
DOW is a fairly low-priced stock. Its price to free cash flow ratio (P/FCF) is 9.7, compared with a 21.4 average for the DJI 30 stocks. Wall Street analysts’ mean consensus target price for DOW is $65.15. They rate it a weak buy .
The StockRover.com fair value estimate (FVE) on Dow is $52.99. That FVE makes the stock look a bit expensive.
Dow is trading at 84.9% of its 52-week high and just above its $59.55 50-day moving average.
Its earnings yield is 13.8% and its stock buy back yield is 1.5%. The one-year beta is .88, which makes it a defensive stock.
StockRover.com’s quality rating on DOW is a high 85.
The delta indicates the probability that a stock will be assigned. The .29 delta on the calls trade described above suggests that there is about a 29% probability that the calls will be called at the $63 strike price, or a 3.91% gain on a 15-day trade. Having stocks called away can be prevented by buying back the calls before expiration. I usually take the gains and then sell puts on the stock.
Subscribe now. It’s free.
Question: Do you do trades like this on dividend stocks? Please use the comments section below to discuss.
LINKs:
Home Page. See previous articles on other stocks and watch lists. If you read several of these articles, you’ll learn how this strategy is meant to work. No guarantees.
Calls vs Puts Options: What’s the Difference?
8 Stocks on $25,000 Covered Calls Watch List
If You Buy These 10 Stocks And Sell Covered Calls, Your Premiums Plus Dividends Could Top 10%
10 Dividend Stocks That Look Underpriced; Generate Premium Income By Selling Puts
Wars Breed Inflation, Rising Interest Rates, Market Turmoil
A video on how to place options trades on Think or Swim.
Beware
Like all investing, trading stocks and options is risky. If you can’t sleep with market risks, you might want to let someone else do your trading. Consider an option trading ETF like XYLD, which I own. I also trade its calls and puts. I’m an active private speculator who trades covered calls and sells puts on stocks for my accounts. I am not a professional analyst nor a financial advisor. I don't take and won't take responsibility for how other people trade. This article is for educational purposes only. It is not advice. The data presented looked accurate at publication time except for intra-day fluctuations, but I can’t guarantee the accuracy. Traders should do their due diligence. I reserve the right to trade any of the listed stocks and options at any time. I don’t have any positions in NEM or XLE. I own Down and have positions in its options. I have no business relationships with DOW. I receive no compensation for producing this content.
@realDonJohnson. Because I don’t want to litter subscribers’ in boxes with emails, I write only one or two newsletters a day. I’m active most days on twitter where I tweet about stocks, options trades and other topics.