I like to have about 24 stocks I keep a close eye on so that, when something happens and they go on sale, I'm ready, willing and able to pull the trigger in an instant. We just did that this week when Macy's (M)announced their earnings and we thought they were just what we wanted yet the market sold them off after the opening pop. That gave us a window to act and, because we follow M closely – we KNEW it was time to act and I issued a Top Trade Alert, identifying it as our top contender for Stock of the Year for 2018(replacing LB, another retailer who has already flown higher).
We issued our 2017 Watch List back in March and in May we picked 13 out of 24 for action, including M as well as BMY, ESRX (still cheap), FCX, GE (cheaper), GILD, LB, PSA (still cheap), QCOM, TGT, GCI, FMCC and SEE (still cheap). So, out of 13 picks we had been watching and pulled the trigger on, 10 are winners, 2 are flat and one (GE) is down and the one that's down is the one we like most at the moment. Our "too early" entry on GE was:
GE (3/5) – Forever $30 but talk about a safe place to park your money! They even pay a 3.2% dividend (0.89) while you wait for something to happen – and it won't. GE is a $262Bn company that pays no taxes ($464M refund last year on $9Bn in earnings!) and has tons of money overseas – what's not to love? Even better, you can sell the 2019 $28 puts for $2.50 and use that free money to buy the $25 ($6.10)/30 ($3.05) bull call spread for $3.05 and that's net 0.55 on the $5 spread for a near 10-bagger if GE simply holds $30. There's anothe interesting way to play this one and that's to effecively buy it by selling the 2019 $32 calls for $4.40 for a net $27.60 entry and then buy the $28 calls ($4.20) for a net 0.20 credit and then just sell 1/2 of the April $30s (0.75). That way, you are collecting 0.375 per long and each time you collect $1.70 (4-5 quarters) you can spend it to roll the long calls lower (the 2019 $25 calls are $6.10) to lock in the gains and work towards a lower, cheaper spread – it's just more work that way.
Since GE pays an 0.96 dividend, we bought the stock (2,000 shares) in the LTP at $27.40 but we sold 2019 $25 calls for $3.75 and the $28 puts at $3.10 so our net cost was just $20.55, right about where the stock is now. With a dividend stock, we don't really care if the stock goes up in price – we care about whether we can drive our basis lower by selling options each year. Our goal is to whittle our basis down to $0 (putting money back in our account for the next opportunity) and then simply sit back and collect dividends forever.
I do wish our timing were better but no sense in whining about it and, unless a stock goes bankrupt on us (not too likely with GE), we can usually fix it. We have to wait for 2020s to come out to make our adjustments but we're only in for $40,000, using $20,000 of buying power in a $1.6M portfolio and we'd LOVE to own 4,000 shares of GE at $20 or less and collect a $4,000 dividend each year for the rest of our lives. Since we can afford 20 $80,000 blocks like that without using margin – we can theoretically be collecting $80,000 a year in dividends alone. And, they tend to adjust with inflation and grow as the company grows (and sometimes contract too!):
So it's not about whether or not GE is doing well or poorly now, what matters is how fast can we extract our investment so we can make another one. In the Long-Term Portfolio, we bought $54,800 worth of stock and sold $13,700 worth of puts and calls. We will also collect $2,880 in dividends and our 1/2 call sales net another $750 per quarter or $4,500 so that's $21,080 (38%) back in our pocket in the first 18 months. That means, if things go smoothly (not so far!), we can make GE net free in 2 more years and then put our $54,800 back to work on the next blue-chip dividend stock.
In the May Trade Idea, let's say we sold 20 of the 2019 $28 puts for $2.50 ($5,000) and bought the $25/30 spread for $3.05 ($6,100) for net $1,100 and sold (so far) 2 sets of calls for $1,500. That's a net credit of $400 and 20 puts are now $1.90 ($3,800) and the $25 calls are 0.75 ($1,500) for net $2,300 so we're down $1,900 on a stock that dropped 30% on us and ready to roll to longer, lower strikes before establishing a proper position.
This is the key to understanding our system. This was our only non-winner out of 13 picks (the flat ones make money too using our "Be the House – NOT the Gambler" system) and it's still very manageable. In fact, since we can still collect 0.85 ($850) making a half sale (10) of the Jan $21 calls – we can still turn the spread positive by the end of next year – even if GE stays flat.
In order to become a real investor, you have to break out of your "winning" and "losing" mind-set and that's very difficult because your broker – who wants you to TRADE, not INVEST, gives you a daily scorecard with minute-by-minute updates to encourage you to thing of your portfolio as something that should constantly be fiddled with to improve your "score". They even highlight your losers in red – so they bother you and further encourage you to dump slumping stocks by raising the margin requirements on them – making them even harder to hold onto.
Imagine if you ran a baseball team that way – constantly cutting players who were having a bad month and hiring players who just had a good month. Would you have a winning team or a team in constant turmoil? Babe Ruth batted .290 and hit just 25 home runs in 1925 and people said it was over for him – the next year he batted .372 and hit 47 home runs, the year before setting the 154-game record of 60 home runs in 1927 with a .356 batting average. Should he have been cut? There were plenty of "***better**" players in 1925 who were far cheaper\*…
That's not how we do things when we are trying to build a team and your portfolio is like a team you are building – one which should stand the test of time and that's not watch time or even calendar time but DECADES of your life kind of time! You want a team that will carry you through retirement – one you can count on for DECADES to come – not one you are going to dump and replace every 6 months.
I'm not saying there are not dogs. If the company changes in such a way that they are no longer a good investment, then of course cut them but the history of the market shows that is not that often the case – especially with solid blue-chip stocks over long periods of time, where the Dollar Cost-Averaging gurus reign supreme.
GE has made a lot of changes and has sold off divisions, raising $78Bn worth of cash but that's also lowered revenues and profits and, because they have maintained an $8.8Bn annual dividend payment, cash flow was -$9Bn in 2016 (not including debt repayments ($58Bn) and stock buybacks ($21Bn). It will take GE a while to move back to being cash-positive but management feels they have no need to cut the dividend.
As I said above, we don't really care whether GE goes up or down, as long as they don't go bankrupt. Using our LTP postion, let's consider our moves on GE as a good example of how we build dividend stocks in our portfolios:
- Buy 2,000 GE at $27.40 ($54,800)
- Sell 20 GE 2019 $25 calls for $3.75 ($7,500)
- Sell 20 GE 2019 $28 puts for $3.10 ($6,200)
- Sell 10 GE July $30 calls for 0.75 ($750)
So our initial cash outlay was $40,350.
- Sell 10 GE Sept $27.50 calls for 0.75 ($750)
- Collect $480 dividend
- Sell 10 GE Nov $25 calls for 0.75 ($750)
Note that we failed to sell the calls, but that's what you are supposed to do! There's simply too much bookkeeping in the LTP to be constantly selling calls against every position – that's a strategy we emphasize in the Butterfly Portfolio. With the short calls, our net drops $1,500 to $38,850 and the short Nov calls go worthless next week and no, I would not sell more calls at $20 as this is stupidly low.
Meanwhile, it's only been 5 months and we've recovered $15,950 (29%) from our original outlay of $54,800. When the 2020 options come out we can assume they'll be about double the price of the 2019s and our 20 short 2019 $28 puts are now $7.50 ($15,000) and we can roll those down to the 2020 $25 puts for about the same price while selling the 2020 $22.50 calls for about $3 ($6,000) after buying back the 2019 $25 calls, now 0.77 ($1,540) so net $4,460 in month 6.
That drops our net basis to $34,390 on 2,000 shares of stock with the short 2020 $22.50 calls and the short 2020 $25 puts so we may be called away at $22.50 ($45,000) for a $10,610 profit (though we'd roll, of course) less whatever shortfall on the $25 puts ($5,000 at $22.50) if we're still below $25 but PLUS 5 dividends of 0.24 ($1.20) for another $2,400.
We haven't even doubled down and already the dividends take us to net $31,990 on 2,000 shares or $16/share and, if we do get assigned another 2,000 at $25, our average would be $20.50 – right where GE is now. Again, keep in mind – this is our WORST performing pick – our only loser, in fact. We also haven't factored in additonal short-term call sales. We'll see where they settle but if we sell 10 of the 69-day Jan $22 calls for 0.50 ($500) and do that every 2 months for 2 years, that's $6,000 more in our pocket.
As I've said, we're about 2 years away from recovering all of our $54,800 and we'd still have our GE stock as an asset and that would still pay us a passive $1,920/yr in dividends and we'll be ready to buy our next stock with our $54,800 and, less than 5 years later – another and antother in 10 year and another in 15 and another in 20. So 20 years from now, we've used $50,000 to accumulate 4-5 $50,000 blocks of stock that are paying us $2,000 a year each so perhaps $10,000/yr in passive income (and we can still sell calls for more money) is 20% of our original $50,000 AND we have $250,000 worth of blue-chip stocks in our portfolio.
That's how you live to be a coupon-clipper. If you want to make $100,000 a year when you retire in 20 years, you want to put $500,000 to work like this now and, if all goes well, you will end up with $2.5M worth of stocks paying you $100,000 in low-tax dividends each year. And that's assuming no appreciation of the stock prices and no increases (or decreases) in dividends. Realistically, you can expect both to keep up with the market and inflation – another huge bonus to this strategy.
Hopefully I've convinced you that it's not that boring playing the long game so, without further adieu, here's a list of stocks I like for this strategy going forward BUT – keep in mind I'm expecting a broad-market correction and I don't think between now and Feb is a good time to add things so very small, conservative entries if you must but this is for a WATCH LIST and the trade ideas are not for immediate action but so we have a benchmark to know when there are bargains down the road.
The origninal date of our calls (if any) are in brackets after the stock symbol but the options we're discussing reflect the currrent positions. If I bold something in blue – it means I like that trade idea right now. Also, for more color commentary on our older picks – go back to the original Watch List links. For allocation purposes – I'm talking about what I'd put in our $1M+ Long-Term Portfolio with $2M+ in buying power as an initial allocation (and we're always willing to DD from there). If you have a $100,000 portfolio, you might want to divide by 10 to determine the appropriate amount!
CIM (11/12/17) – Is an old favorite that's cheap enough again at $17.87. It's a REIT that pays a $2 dividend, which is 11.2% at this price – so you know we like that. What we don't like is very crappy options, which is why we don't often play them but a Powell Fed should keep rates low and the cash flowing for CIM so I'd go for 1,000 shares at $17,870 and sell 10 of the June $17 calls for $1.10 ($1,100) and 10 of the June $17 puts for 0.85 ($850) to net in for $15,920 which is an 11% discount in 6 months, so pretty good and the $1,000 dividend makes it 16.5% off in 6 months and any stock that pays us back 33% of our outlay each year is certainly worth owning, right?
ETE (11/12/17) – Energy Transfer Equity is another way to play Natural Gas – through the transport pipelines. All that shale drilling has to be transported and ETE is a leader in that space. It has had some erratic swings, however so, rather than buy the stock for $17.47 and hedge to collect the $1.18 annual dividend, I'd rather just sell the 2020 $15 puts for $2.60 so we collect 2 year's dividends (in advance) and worst case is netting into the stock for $12.40 and THEN we sell puts and calls to lower the basis.
F (11/12/17) – Still reasonably priced at $12.01 and paying a nice, reliable 0.60 dividend (5%) already makes them attractive but also nice option premiums. 2020s aren't out yet and I'd wait but, for example, you can buy 2,000 shares of the stock for $24,020 and sell 20 of the 2019 $12 calls for $1 ($2,000) and 20 of the $12 puts for $1.35 ($2,700) to net in for $19,320 ($9.66/shar) and then you get $1,200 in dividends too!
GCI (5/9/17) – Despite being up 25% since our entry in May, I still like Gannett and their 0.64 dividend (6.29%). We pulled off a net $6.60 entry in May Indications are that GCI should make just under $1 this year and next so the p/e is about $10 so we can buy 2,000 shares of the stock for $10.18 ($20,360) and sell 20 of the April $10 calls for 0.90 ($1,800) and 20 of the April $10 puts for $1 ($2,000) for net $16,560 ($8.28), which is not bad considering the Aprils are less than 6 months out. We can expect 2 dividends of 0.16 ($640) so, in 6 months, we're down to $15,920 and we just have to hope people are still reading newspapers by then.
GILD (2/17/17) – Though it's much higher than our initial entry, GILD pays a reasonable $2.08 dividend per $73.77 share and we loved them at $65 and you can sell the 2020 $65 puts for $8.10, which nets you in at $56.90, effectively raising the dividend to 3.6% but it's 7.1% if you get called away without ever actually buying the stock – nothing wrong with that!
HRB (2/17/17) - Replacing their workers with Watson in the next few years, so a good long-term play. Simplification of tax code may make them a good choice for more people (bad for accountants) and they are still cheap at $5.25Bn ($25.08) though that's up 25% from when we came in. We're just lucky they pulled back from $30 so 1,000 shares at $25,080, selling 10 2020 $23 calls for $5.25 ($5,250) and 10 of the 2020 $23 puts at $4.20 ($4,200) is net $15,630 ($15.63) and that's already 38% off and another $1,920 in dividends over 2 years is net $13,710, which is 45% of our money back in 25 months – how can you not love a stock like this?
LB (2/17/17) – $50 was where we first liked them and they got cheaper and I made them my Stock of the Year pick at $35 but, since we don't officially make a pick until mid-November, they have sadly gotten away from us (like IBM did last year). I would have skipped them but they pay a $2.40 dividend and I can't ignore that. We can take advantage of the fat 2020 premiums buy buying 1,000 shares at $49.66 ($49,660) and selling 10 of the 2020 $45 calls for $11.50 ($11,500) and 10 of the 2020 $35 puts for $5.20 ($5,200) to net in for $32,960 which makes the $2,400 annual dividend a 7.2% return while you wait. You can also sell 5 (1/2) Jan $53 calls for $1.90 ($950) and 10 sales like that plus $4,800 in dividedns over 2 years will drop your net by $14,300 to $18,660 – what's not to like. It's easy to see how, by 2022, you can recover 100% of your cash outlay on this one!
M (2/17/17) – As I said in Feb "We like M for a recovery story and, if not, as a real estate story. They have 900 big-box stores and a $9Bn market cap so $10M per store is not a lot to pay and, at $9Bn, it's a good size to be acquired by a foreign company looking to have a presence in the US. Meanwhile, they made $1Bn last year and maybe $900M this year so not like SHLD, who are losing $1.5Bn a year AFTER selling off land and brands yet still, for some reason, hold a $1Bn valuation." I was 33% too early with that call but NOW they are my top contender for Stock of the Year for 2018. M pays a whopping $1.51 dividend against a $19.98 price so I'd go 2,000 shares at $39,960 and sell 20 of the 2020 $22 calls for $3.50 ($7,000) and 20 of the 2020 $15 puts for $2.50 ($5,000) to net in for $27,960 ($13.98/share). $6,400 of dividends are coming (11.4%/yr) and that would drop the net to $21,560 or $10.78/share so, even if assigned 2,000 more at $15, your average on 4,000 would be $12.89 ($51,560), which is 35% below the current price. That's your worst case! While I think it's too early to sell short-term calls, Jan $22 calls are 0.80 and even the Jan $25 calls are 0.30 so I would sell 10 (1/2) Jan $25 calls for 0.50 ($500) if it pops as 10 sales like that return another $5,000 to you without too much worry the stock will pop 25% in 2 months (though I am slightly concerned they get bought out at this price ($6Bn), possibly for $9Bn so $30 would mean you have to give $5,000 back to a short $25 caller but you'd make $16,000 on your longs at $22+.
NLY (11/12/17) – Is the same management team as CIM, so my other favorite REIT – maybe more so as NLY has 2020 options to sell. Here we can buy 3,000 shares at $11.24 ($33,700) and sell 30 of the 2020 $10 calls for $1.40 ($4,200) and 20 of the $10 puts for $1.40 ($2,800) for net $26,700 ($8.90/share) and we'll collect $6,000 in dividends TWICE by Jan 2020 to drop our net to $20,700 which is $13,000 (38.5%) back in 2 years and, keep in mind, we'll get those 38% returns – FOREVER – long after all the outlay is back in our pockets. THAT is how you build a retirement portfolio!
PSA (3/5/17) – Back in March I said "I generally don't like $226.61 stocks but this one pays an $8 dividend and is a good value at $220, so I am interested. $200 should be a very solid floor so not much risk in selling Sept $210 puts for $9 because your worst case is owning them at net $201 and, if they head higher – $9 by Sept is far ahead of the dividend anyway. I like this space as they are a REIT but no single tenant can break them and more people renting apartments means more need for extra storage space (plus retirees who can't let go of their stuff when they downsize)." Well, nothing has changed and the stock is now $211 so, having collected $9 for doing nothing, now we can collect $9.50 more selling the June $200 puts and we many never end up owning the stock – but 10 years from now we will have collected enough to buy it!
SKT (11/12/17) – Is not a REIT but they own malls and Retail might be dying but the need for good space where people congregate doesn't die so easily. Also, though they may lose a JCP, big box stores tend to have very cheap deals with more than their share of parking and they are replaced by tenants who pay much more per square foot. SKT runs very nice malls and tends to use them as event spaces for their towns to attact more shoppers – a strategy I really like. They are a bargain at $24.27 but, sadly, options only go to June so far. You can buy 1,000 shares for $24,270 and sell 10 June $25 calls for $2.50 ($2,500) and 10 June $25 puts for $3.70 ($3,700) and net in for $18,070, which makes the $1.37 dividend 7.5% while we wait for longer options to sell.
TGT (2/17/17) – Hasn't gotten away yet and you've got to love a $2.48 dividend (4.18%). Earnings are certainly holding up at $4+/share and guidance has been in-line going forward but no exciting growth. At $61.40 I have no objections to buying the stock so let's say 500 shares for $30,700 and sell 5 of the 2020 $60 calls for $8.50 ($4,250) and 5 of the 2020 $55 puts for $7.25 ($3,625) and that's net $22,825 ($45.65/share). That brings the dividend up to 5.4% and 2 years of those will be $2,480 so, in 25 months, we'll have recovered $10,355 (33.7%) of the $30,700 stock purchase price - not bad! Keep in mind that's without any call sales. If TGT were to look toppy at $62.50 and certainly by $65, I'd want to sell at least 2 (40%) of the Jan $65 calls, now $1.35. That would be $270 and it doesn't seem like much but that's for 68 days out of 796 – so a solid 10 sales to look forward to is $2,700 – that's more then the dividend!
I'll be working on this all week. so I am willing to take requests in comments if you have any good ideas (or want to remind me of my ideas if I haven't gotten to them)!