I'm risk averse and have a diversified portfolio of high quality dividend growth stocks JNJ, KO, PEP, MCD, XOM, LO, MO, KMP, WMT, PG, TGT, and so on. I never sell the stocks, collect the dividend along the way, and will continue to do so for decades. It fulfills my objective of making an AVERAGE yearly total return (price appreciation + dividend) of 10%+ I have a cash account and do not trade on margin (I'm risk averse). As opposed to some other value oriented dividend investors who place a limit order say 5-10% under the current market price with a goal to obtain more value (higher dividend), when I want to own a stock I pay the market price to get in, and never miss the boat. I have friends who consistently said KO or PG were overvalued, placed limit orders and never get filled, now they missed on price appreciation and dividend increases. I read selling monthly put options on stocks I want to buy (not on margin, I have the cash on hand) can be a good way to decrease the cost basis but what is the opportunity cost of failing to buy the stock? Say January: Price of stock XYZ is 60 and I sell puts with a strike of 55. If the price goes under 55, great, I improved my cost basis, happy days. But if the stock goes up to 65, I didn't get in, missed on the stock price appreciation and eventually missed on the dividend if paid that month... I received the option premium but how does it compare to the missed stock appreciation and dividend? Every month for say the next 6 months, stocks XYZ continues its bullish trend, and each month, my OTM written puts didn't get filled, I could'n't buy the stocks, I missed on the stock price appreciation and dividend, but yes I collected some options premiums every months. Will the options premiums received compensate for the missed stock price appreciation and dividend? I guess it all depends on the specific numbers (eg how far out of the money I sell the put, how large is the stock price appreciation, and the dividend etc.) But as a general rule of thumb would you advise to sell puts and collect premiums with an opportunity cost of not getting in a bullish stock? I read everywehere that low risk and long term dividend investors as I am should consider selling puts to get in a position, but does that really work, what if I never get filled at the strike price?
There will be others with far more experience than I who might quantify your opportunity costs, but I would suggest you read this study which analyzes a variety of approaches using historical S&P data. The one that in general did "the best" (based on returns, volatility, etc.) was the CBOE PUT index. It is modeled on the sale of cash-secured ATM puts on the S&P 500 combined with money market returns on cash. Annualized return was 10.8%, which meets your criteria. http://www.cboe.com/micro/buywrite/Pap-AssetConsultingGroup-CBOE-Feb2012.pdf In practice, I assume you would convert to a covered call strategy once assigned. The study also looks at 2 different covered call strategies (BXM = S&P ATM covered calls and BXY = S&P 2% OTM covered calls). BXY did better (10.4%) than BXM (9.4%).
selling puts with the intent to take the ownership of the stock takes on much the risk of stock ownership without the unlimited upside of actually owning the stock... That being said there is more to this, as everyone finds out as they practice this method.. A options price implies a future distribution of prices "Implied Volatility". Therefore when the market has very little uncertainty, the premium you receive for selling puts is very little. On top of that many times the market will leave you without the stock and just a little premium collected for the sale of the put.. Then just as you make this put selling a routine, the picking up pennies in front of a steamroller effect can take ahold. and the market dives down so hard that your basis in the stock doesn't make up for all the premium collected.. Sell puts when volatility is high... the more itm you sell the put the less premium you collect and the more likely you will be to receive the stock... there are moving parts that many people don't realize about selling options.. A method of contiguous put sales can sometimes make no more money then a buy and hold strategy in the long run.. a Random walker would say you would never be able to make money this way.. Although i have a client that has for years... Its more of a matter of having a view on how rich the premium is your selling.. You will become a trader doing these kinds of things.. Sounds like your an investor...
As noted above, it's probably not going to be worth it. - Short term capital gains taxes on selling stock options - Lots of accounting compared to what you're used to - The implied volatility in these blue chips is quite low For kicks, I looked at Pepsi. Excluding commissions and assuming a flat or rising stock price, you could earn 8-10% annualized on some longer term options, but you'd be selling at-the-money or a couple of bucks out of the money, which isn't much cushion on an $80 stock. There are people that do what you're proposing, but it can take a lot of time and to be more lucrative I think you would need to add a few higher volatility stocks to the basket and/or sell some credit spreads or naked short puts, i.e. use leverage. You don't need to go crazy, but you'd have use *some* leverage to juice the returns.
Thanks everyone for your input. I came to the conclusion options are not for me as: I don't want the accounting hassle as I never sell and never pay capital gain tax. The only tax I pay is on the dividend and I don't want to get involved with paper work. If options can only make me 8-10% a year, assuming its by rolling the options each month, I can make easily as much by just being long the stock long term collecting the dividend (buy and forget). I don't have the time to monitor adjust the strategy. I have a portfolio of 70+ dividend stocks, none of them weight more than 2.5% of portfolio value. I could not put 70+ strategies in place and doing it for only one stock would be a lot of effort for little money compared to the 70+ others stocks. Margin to get a juicy P&L. I will never do this. My main goal is income and capital protection. Taking high margin risk to make 11% instead of 10% isn't worth the risk. Like Warren Buffet, I will stick to invesment I understand and will leave options to rocket scientists. Thanks again for your input, now I do know these strategies are not for me.
i sometimes thing there is no way to avoid becoming a trader when looking at some of these types of things.. i've always thought if volatility is that high and puts are really that worth selling, its better just to buy the stock period.. Especially when in a situation in which you are more of an investor.. I'd rather myself use volatility as a metric to enter the stock upon instead of selling volatility via the sale of puts , and miss all the upside on the recovery.. as an investor that is..
I think if more people took your stance they wouldn't need Financial advisers, and "structured products" to purchase.. I like the way you think..
Right off the bat, am sure everyone has their own opinions and keep in mind what I think is irrelevant in the end as it really applies to how I would manage things, and used to manage way back when before I had to trade futures only because of work⦠I think you are giving up yield by not using a modest amount of leverage⦠historically, portfolios based on dividend strategies are âlow drawdownâ strategies overall given part of your criteria should be to ensure your overall beta is anywhere from 0.5 to 0.75 tops. Using low cost leverage, not surpassing 30-40%, would increase your yield by 25%-30% without writing options to further increase that yield. (I make one simple assumption, that you have access to a broker that will have low rates for overnightâs⦠like IBKR for example) I donât know your criteria for selecting candidates for your portfolio, but I presume that it will yield quality, non-cyclical selections that will also be diversified across industry sectors, currency and countries⦠and that they will be a beta lower than 1.5 tops⦠if you are long only, then IMO writing puts and calls while continuing to build your positions within that portfolio, will generate extra yield⦠It is an active way to manage a portfolio, but it is also a simplistic way to increase yield⦠specially given your long only view⦠but diversification is paramount, concentration of any position will lead to â¦hmmm⦠failure⦠As an example⦠P&G crisis drawdown was 36%, Duke 38%, Edison 59%, McDonalds 12%, TransCanada 27%, British Tobacco 6%, Videndi 40%, Eutelsat 16%, GE 80%... had I been concentrated on either GE or Edison, I would be wiped out⦠Obviously, finding the balance as to how much leverage and how much cash and rebalancing your positions over time is the key⦠after all, those puts would have been hit (using up cash and margin) but you would have wanted to continue to add to those positions if your view was still positive long term⦠so how much cash to have aside is important at times.. which is why leverage is also important, but not as much as continuously revisiting your selection criteria and evaluating if a position still meets that criteria⦠most people tend to forget to perform that steps often enough and then complain when they fail to participate in a bull market.. so you need to be active, and dynamic as well, in managing that portfolio⦠Anyhow, just my 2 cents.. for whatever they are worthâ¦
Nicely said CDCaveman, The very thing I don't want to happen is to miss the stock market recovery and the dividend increases. I thought selling puts would be easy money for little work and almost a free lunch as some investors want others to believe. Just so you know, and being honnest with myself, I'm a former "failed" day/swing trader, I never lost much but most of the time I was being flat, making a bit, losing a bit, over the years I lost small due to the commissions. What I really lost is thousands of hours in front of my screen and being stressed out. With long term investing I'll get rich slowly but surely due to the compounding power of re-investing increasing dividends. I'm not rich yet but it has worked well enough for me over last few years as I continued to invest every month during the recession, thereby averaging down on some of my positions when they were at the bottom and I had only 2 dividend cuts out of 70+ stocks. My dividend income has always been on the up, ALWAYS for the overall portfolio. The last thing I want to do is pay loads of commssions and being glued to my screens as I used to a few years ago. So yes, I'm a failed trader but a successful investor. It's far less glamorous and I wont get rich quick but it's the way it is. On the flip side, there is very little chance I will get poor or lose it all on a bad trade...