by Lawrence Meyers | January 7, 2014 9:02 am
A few years back, I decided to aim for a goal of generating about $1,000 per month in options income.
Sure, that particular number was selected because it’s a nice, round number — but it’s one that I considered achievable based on the amount of risk I was willing to tolerate, and the capital available to execute trades should they occur.
Originally, my strategy centered around selling covered calls against a part of a few core positions. Then I realized a more efficient play was to sell naked puts against stocks I either held and felt were undervalued, stocks I was considering purchasing, or stocks that were good trading vehicles. That way, if the stock price was below the strike, the stock would be put to me, and I’d be happy to have it.
So here are three such stocks that I’ve used options on to help generate my monthly goal:
I had been very bullish on the long-term prospects for DirecTV (DTV). DTV stock had performed decently over the past few years, but never delivered the blockbuster returns I’d hoped for. Instead, it morphed into a great trading vehicle and a stock perfect to sell naked puts against.
DTV carries a lot more debt than it used to, its growth rate has slowed, but it still generates enormous cash flow. So it’s a safe company, and having shares put to me would not be any great tragedy.
In selling the Jan 70 Puts for $1.40, I pick up a 2% return for just a two-week holding period, and if the shares get put to me, I’d probably turn around and sell calls against those DTV shares for February. I sold two of the puts contracts for $280 in income.
Retail is a dicey place to be in this economy, so if I sell naked puts against retail, it had better be a solid stock.
Bed Bath & Beyond (BBBY) is in really good shape. For one, BBBY stock has $900 million in cash and no debt. It is growing at a nice 12% clip, and free cash flow is routinely in the $800 million range annually.
Like DirecTV, BBBY stock has not been an explosive performer, but has the kind of volatility that makes it a good trading and options vehicle. The Jan 80 Puts recently went for $2.75 (though have since fallen to around $2.65). I sold two of the put contracts for $550 in income, bringing the total thus far to $830.
Note: BBBY does report earnings Wednesday, so the potential for volatility in the stock is extremely high.
The final selection is Amgen (AMGN). The biotech firm has beefed up earnings growth a bit, now slated to grow at 12%-15%, has $22.5 billion in cash, and solid free cash flow in the $5 billion range annually.
It’s a perfectly safe company, even if the stock is a bit overvalued for my taste. Still, AMGN stock has always sold at a premium to its price/earnings-to-growth ratio, and the 2.1% dividend is a reason why its price remains a bit lofty compared to what I’d like.
When selling naked puts, I like to choose world-class companies like this that have been around a long time. Even if shares get put to me and the stock declines, I know that sooner or later, I’ll make that loss back.
In this case, Amgen is one of the stocks with weekly expiration dates, so by selling the Jan 112 Put (Jan. 30) for $1.70 (for a contract total of $170), I hit my exact target total of $1,000 in income.
As of this writing, Lawrence Meyers held options in all of the aforementioned securities. He is president of PDL Broker, Inc., which brokers financing, strategic investments and distressed asset purchases between private equity firms and businesses. He also has written two books and blogs about public policy, journalistic integrity, popular culture, and world affairs. Contact him at firstname.lastname@example.org and follow his tweets @ichabodscranium.
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