Tuesday, November 15, 2016

Recent Options Transactions

dividend growth investing, option strategy, put option, income investing
Visa, Inc. (V) Put Options Transactions
As part of running this blog that chronicles my journey to financial independence I like to be open and honest with all of my transactions.  Typically that revolves around buying shares of high quality companies that I deem to be at fair value or less.  And occasionally there's a sale of a company like when I closed one of my positions earlier this month.  Being open about the moves I make allows for better discussion with all of you and helps spread ideas around.  If it creates my own "investment journal" to detail why I made the move and my expectations, well that's even better.  


Well, my plan was to slow down my put options activity, but yesterday offered a good opportunity and I just couldn't help myself.  For some reason shares of Visa, Inc. (V) sold off 4.3% on Monday.  Other than valuation I couldn't find anything that would cause a pretty large selloff from Visa.  With no news coming out about the company about the only other thing I can think of that would have led to the decline would be a breakdown of the technicals.

However, an unexpected and unexplainably sharp decline in excellent businesses is exactly the thing that can entice me to tie up some of my cash.  Last month Visa rewarded shareholders with a 17.8% increase to their dividend.  

Of all the companies on the Dividend Challenger list, greater than 5 but less than 10 years of dividend growth, Visa is one of my highest conviction ideas to make it to Champion status.  Unfortunately, Visa's value is largely tied to its growth potential rather than it's current yield.  However, it wasn't that long ago that the Dividend Champions of today such as Johnson & Johnson and Coca-Cola were trading at much lower yields due to their strong growth potential.

Visa, Inc. (V) - Sell to Open Put Option (1)

Company: Visa, Inc. (V)
Transaction: Sell to Open 1 Put Option
Date Opened: 11/14/2016
Expiration Date: 12/16/2016
Strike Price: $77.50
Price of Contract: $1.79
Premium Received less Commission/Fee: $178.95

I really like put options as a way to essentially set a limit order and get paid for it to hit.  This works wonderfully if you've done your homework on the company and are comfortable purchasing the shares.  The big risk is something unexpected happening that alters your investment thesis, although I'd venture to guess that with many of the blue chip dividend growth companies that doesn't happen that often.  That's why I consider put options to be the best of both worlds.

So how can this move play out?
dividend growth investing, income investing, option strategy, put option
Visa, Inc. (V) December 2016 $77.50 Put Option
If the share price remains above $77.50, the option won't be executed and I'll just keep the premium as profit.  The premium return is pretty solid at over 2% in just over a 1 month time frame.  On an annualized basis it looks even better at 29.8%.  

If the share price declines below $77.50 then I'll be forced to purchase 100 shares at the strike price less the option premium.  That works out to an effective purchase price of $75.71 which gives about 3.5% downside protection.  Typically I look for a larger discount; however, in this case I was willing to accept a smaller downside protection.

With such a small discount to the current price the yield on cost barely budges increasing slightly from 0.84% to 0.87%.  The valuation also doesn't look like a huge sale; although it seems reasonable considering the growth potential of Visa.  At that purchase price the TTM P/E ratio would be 26.7 and the forward P/E would be at 23.1.

Visa, Inc. (V) - Sell to Open Put Option (2)

No that's not a typo I strayed a bit from my norm by writing two put options on Visa yesterday.

Company: Visa, Inc. (V)
Transaction: Sell to Open 1 Put Option
Date Opened: 11/14/2016
Expiration Date: 3/17/2017
Strike Price: $72.50
Price of Contract: $2.05
Premium Received less Commission/Fee: $204.95

So how can this move play out?
dividend growth investing, income investing, option strategy, put option
Visa, Inc. (V) March 2017 $72.50 Put Option
If the share price remains above the $72.50 strike price then I'll just keep the option premium as profit and move on to other opportunities.  The premium return here is only slightly better than the first put option that I wrote and works out to a 2.83% return.  However, since that would be earned over approximately 4 months the annualized return is much lower at just 8.63%.  In my eyes that's still pretty solid.

If the share price continues lower than the strike price then I will have to purchase 100 shares of Visa for $72.50 less the option premium.  That works out to an effective purchase price of $70.45 which is about 10% lower than the price at the time the contract was opened.  

At that purchase price the yield on cost would look at bit better than the current 0.84% and would bump up to 0.94%.  The TTM P/E ratio, based on 2016's earnings, would be 24.8 while the forward P/E , based on 2017's estimates, would be 21.5.  

Conclusion

As a bit of reference S&P Capital IQ has a fair value price of $76.20; however, I fully expect that to continue higher as the integration of Visa Europe shows further improvements.  Their 12 month price target is $87.00.  Morningstar currently has Visa rated a 4 star stock suggesting it's trading below their fair value range.

Regarding the first put option my plan, hope?, is to be more aggressive with trading around this option in order to lock in a solid premium gain.  If the share price heads higher or as we move further along in time and the time value gets eroded I fully intend to buy back the put option for a gain.  

If the share price continues to drift lower and the shares are put to me then I fully intend to just move on over to writing covered calls on these shares.  The discount to fair value isn't quite where I'd like it to be so using this capital to generate gains via the options market is fine by me.

The second put option is a very different beast.  I really have no preference on how this one ends up because there's a good balance between discount from the current price and the premium return if the shares aren't executed.  Although if I had my way the share price would cooperate and allow the first put option to just expire while the second put option is then executed.  Time will tell though.

Well, so much for taking a break from getting this capital exposed to the markets.  With the flurry of put option writing last week I have over $45k tied up via open put options within my Rollover IRA.  Yikes!  Honestly that's a bit scary to see just how quick that's happened.

I moved around $140k worth of capital from my 401k to my Rollover IRA and I'm setting a hard cap on myself of 50% of that at the most being used for option writing.  I'm a bit torn between wanting to be aggressive with options, dollar cost averaging into some positions and keeping a large cash cushion in the event of a large pullback in the markets.  It's a pretty delicate balance and I really need to set up some ground rules for this capital which I will hopefully accomplish this week.

As far as other potential put options, Altria (MO) is a possibility as the share price has been under pressure after the Trump victory (I'm guessing due to the decrease in bond prices and rise in yields over the last week).  However, since I currently have an open put option on Altria expiring in December within my FI Portfolio I would likely need to go further out on the expiration date in order to get a bit of calendar spread with my money.  Within my Rollover IRA I currently have 2 put options with December expiration dates and 3 with March dates.  

I've updated my Option Summary page to reflect this change.

What do you think of the 2 put options I opened on Visa?  What companies are you finding attractive for outright buys?  

Please share your thoughts below!

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8 comments:

  1. MO has been in freefall (along with PM) so I think you are on to something.

    http://TheDividendLife.com

    ReplyDelete
    Replies
    1. DL,

      I'm tempted to write another put option on MO if I can find a decent one expiring in December. It's a bit harder since I want to make sure I get a lower cost basis in case my current open put option is executed but I'd have to go too far out of the money to get a discount which reduces the premium yield significantly. I hope to get a second MO put option written but I'll probably need a bit more downward price movement to get the right situation. Lowe's has some interesting put option possibilities which I'm looking at right now.

      Thanks for stopping by!

      Delete
  2. Nothing wrong with having more than one put open as long as you manage the position or are willing - worst case - to buy 200 V.

    ReplyDelete
    Replies
    1. AT,

      I'd be a bit overweight V if both puts trigger, but I'm okay with that because at least on the first tranche I would sell calls to hopefully boost income. Plus like I mentioned Visa is one of my highest conviction picks to be able to run off a 50 year dividend growth streak that has a current streak less than 10. Non capital intensive, toll road company with excellent cash flow, low payout ratios and a willingness to reward shareholders with dividends? Oh and a great growth runway too? Sign me up.

      Thanks for stopping by!

      Delete
  3. I like selling put options as well on stocks I want to buy.

    It's smart that you choose an option expiration a few months out.

    I have sold puts on STX several times and now I finally own the stock.

    Currently, STX has a 6.5% dividend.

    The 5 year stock chart is now showing an interesting bullish chart pattern.

    ReplyDelete
    Replies
    1. SS,

      I really like put options as well. Especially when you couple them with companies that you want to own for the long term.

      I've never looked in STX so maybe it's worth a look.

      Thanks for stopping by!

      Delete
  4. I think V is an outright buy below $80. Monday was a great day to sell puts. I sold a similar one to your first put just haven't done the write up yet.

    Juicy premiums!

    ReplyDelete
    Replies
    1. catfishwizard,

      Visa is a great company and the only thing I wish is that we'd see it trade at a better valuation, but that's the price you pay for growth. It's still amazing to me that some higher yielding companies like GIS, KMB were trading for about the same valuations, TTM P/Es, as companies like V and NKE. Really? The only explanation that I can figure is because of the higher yields.

      Thanks for stopping by!

      Delete