What do you consider a blue-chip stock?
Certainly the recognizable names in the major indices will qualify, as will the big consumer names that all the major exchange-traded funds hold — particularly if they’ve been around for decades and pay dividends.
So it’s easy to consider Apple (AAPL), Disney (DIS) and Southwest Airlines (LUV) as blue-chip stocks. Not only are these large companies with well-known brands, but in particular, Apple, Disney and Southwest also dominate their spaces.
I also think the term “blue-chip stock” also implies a degree of safety beyond that which the market as a whole provides — one that money managers consider “must-own,” and ones that would be the most likely to recover after a big correction.
And the nice thing about these blue-chip stocks?
You can hunt down covered calls that pay more than the 1% or so that you’ll get from other blue-chip stocks. Let’s have a look.
Covered Calls on Blue-Chip Stocks: Apple (AAPL)
If you hadn’t heard, Apple (AAPL) sold off on a pretty good earnings report recently.
I think that the psychology on AAPL stock makes it ripe (no pun intended) to sell covered calls against. I think AAPL stock is going to be in a trading range for quite some time, and certainly until its next earnings report.
We like stocks that show some volatility yet stay in a trading range. It allows us to buy the stock and sell covered calls against it, possibly repeating the process whether the stock gets called away or not.
As it happens, as I write, AAPL stock is recovering today to just about $120. You can sell the Sep. 4 $120 covered calls for $3 here. If shares trade at or above $120 at expiration, your stock will be called away, and if they trade below, the contract will expire worthless and you’ll keep your shares — either way, you keep the premium.
The $3 here exceeds my 2% desired target for covered calls. In fact, at 2.5% for just a 25-day holding period, it’s a 36% annualized return.
Covered Calls on Blue-Chip Stocks: Southwest Airlines (LUV)
Southwest Airlines (LUV) has been on my options radar for several weeks. It has great volatility and has been stuck in a trading range. Buying the underlying LUV stock here at $37.79 is still a good deal — it’s some 23% off its 52-week high.
I love doing value plays and covered calls together.
Once again, you have a great opportunity to buy the underlying LUV stock and sell the Sep 4 $38 covered calls for $1.10. There’s a lot to like here, first with the generous 2.9% premium for just that 25-day holding period. That’s a whopping 42% annualized return, which is very difficult to achieve.
You also would pick up an additional 21 cents in capital gains if LUV stock is called away, so you can add that to the mix for a 3.4% return, or 50% annualized.
You may even consider selling an additional covered calls set by selling the monthly Sep $38 covered calls for $1.35. You could pick up a maximum 4.1%, or 60% annualized.
Covered Calls on Blue-Chip Stocks: Disney (DIS)
Certainly most investors consider Disney (DIS) a blue-chip stock. DIS stock got clobbered on an earnings report that I think needlessly worried the market.
What the report has done, however, is slow Disney’s ascent. It had been climbing for some time, and is now in that lovely trading range we like.
Plus, there’s lingering volatility from the earnings report.
So we have DIS stock trading at $110, and the monthly Sep $110 covered calls are selling for $2.75. That’s good for a roughly 2.5% return, or 23% annualized.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. As of this writing, he was long AAPL, DIS and LUV. He has 20 years’ experience in the stock market, and has written more than 1,200 articles on investing. He also is the Manager of the forthcoming Liberty Portfolio. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
