How Owners of AT&T (T) And Verizon (VZ) Can Use Covered Calls And Dividends To Offset Losses

Small and large dividend stock investors can use covered calls and puts trades to generate monthly income from options premiums and options trading.

By Donald E. L. Johnson

Cautious Speculators

• Owners of telecom stocks are taking their losses and putting the proceeds in better investments or cash.

• Traders who want to wait for the stocks to rally can collect dividends and sell covered calls to cushion further losses and maybe offset recent sharp losses.

• Implied volatility on telecom stocks is very high, reflecting the risks involved in owning the stocks.

• High implied volatility gives sellers of covered calls high options premium prices on their options trades.

The Wall Street Journal’s series of stories about how telecom companies abandoned lead insulated phone cables are leaching lead into drinking water is depressing the prices of AT&T Inc. (T), Verizon Communications Inc. (VA), Luminum Technologies Inc. (LUMN), Telephone and Data Systems (TDS) and T-Mobile US (TMUS).

Owners of these and other affected telecom stocks can accept that their prices will stay depressed and even continue to sink, or they can hold on to the high dividend yielding T, VZ and FYBR and sell covered calls on them to reduce their net debits on the stocks.

For example, T is trading at $13,84 and sinking. A T shareholder could collect the 8% dividend and sell monthly calls for options premiums income that could provided another 15.5% to 43% cushion from current prices.

That is, sell T 8.18.23 expiration $14 strike covered calls for an annualized return on risk of about 43%. Or sell T 18.18.23 $15 strike calls for about a 15.5% ARoR. There is about a 55% probability that the $14 calls will not be called and about a 79% probability that the $15 strike calls will not be called.

Similar trades can be done on the other stocks. And traders might want to trade calls that expire in three to six months instead of the monthlies. Every trader’s risk tolerance and trading style comes into play as they decide what to do with the stocks.

Another way to go would be to decide the stocks are dead money. Traders are taking losses on them and will put the proceeds into better investment opportunities.

Click on images and zoom in for better views.

Several of these stocks have very active and liquid covered calls and cash secured puts, as shown by the above table after the July 14 close.

Note that these hard hit stocks’ implied volatility and one month IV ranks have soared as their prices have declined.

That means that the prices of covered calls and cash secured puts options are very high. High options prices are good for sellers of covered calls and puts.

But anyone who owns these stocks or is trading their options is taking big risks that the stocks will drop further as the markets adjust their prices in reaction to their exposures to class action lawsuits, possible dividend cuts and new laws and regulations.

Barchart.com’s technical indicators are strong sells on telecom stocks are strong sells.

T, VZ and TDS pay very high dividends. Their price to cash flow ratios are very low and their PE and peg ratios reflect investors’ bearish trades on these stocks.

It is clear that T and VZ are in big trouble because of the Wall Street Journal's investigative reporting on abandoned lead cables and growing political demands that the companies fix the problem.

So far, the companies aren't sure what a clean up will cost. Their public relations responses to the scandal are an even bigger scandal. They are saying that they are doing their own tests of lead levels and they will work to solve the problem. But their responses look like standard cover ups to casual observers and potential plaintiffs in class action suits.

The questions for investors are:

1. How much of the companies ‘free cash flow will have to be invested over how many years in the cleanup?

2. How will that affect dividends? Will they be cut 50% or 100% until the mess is cleaned up?

3. Why should current owners of the companies' stocks be punished for what the companies have been doing for years?

4. What are the alternatives, punish shareholders, punish customers, punish suppliers or just go for more Biden spending and subsidies?

5. Customers and shareholders benefited and are benefiting from this mess. Why not take it out of their dividends and the value of their stocks? Why not raise telecommunications rates 15% to 30% a year to pay for the cleanup?

6. Why should taxpayers subsidize VZ and T shareholders and customers? Is it because almost every household in the country used the cables before they were abandoned back in the 1990s and early 2020s?

7. What about owners of new homes where there probably are few if any abandoned cables? Do they have to pay, too?

8. Will juries buy the companies explanations that they didn’t remove the lead insulated phone cables because it would be riskier for workers and affected communities to remove the cables than to leave them in place? In some cities that have too many old lead water pipes, the pipes are being left in the ground for those reasons.

9. Which insurers and reinsurers are exposed to claims on the telecom’s directors and officers insurance and property and casualty insurance policies. It is unlikely that insurance will cover all of the claims that are likely to be filed. Many insurance and reinsurance policies probably include exclusions that leave claims on abandoned lead insulated lines uninsured.

The bottom line is that none of these companies will be raising dividends until the mess is cleaned up. They're likely to cut or eliminate

dividends. Customers will pay for the cost of the cleanup.

Class action lawsuits will enrich lawyers.

Caterpillar, its customers and competitors will make millions supplying equipment and services to the firms that get contracts to do the cleanups.

The challenge for investors is to figure out who will be hurt, and who will profit from this mess.

I think that The Wall Street Journal should get a Pulitzer Prize for this series of stories. That will enrich reporters, editors and others involved in producing the stories.

I have no positions in these stocks or their options.

LINKs:

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