Over the past couple weeks I’ve been telling you about how “10% Trades” can safely double… triple… or even quadruple your investment income.
[hana-code-insert name=’adsense-article’ /]Each of these trades involved stocks that I’d be happy to own for the long-haul if purchased at the right price (thanks to their growing dividend streams)… or that I’d be ok letting go of in six to 10 weeks as long as it meant I’d be capturing at least a 10% annualized profit in the process.
In the write-up of my Pepsi trade I hinted at a serious problem facing many investors today — but especially those who are perhaps in retirement and in need of safe, high-income today.
In short, you want to put your money to work for you in high-quality dividend growth stocks for their safety and growing dividend stream… but their current yields are so suppressed today that you’d potentially have to wait a whole decade before being able to capture a double-digit yield-on-cost.
The yield-on-cost table below illustrates this “problem.”
In this particular example we assume the following:
- The company’s recent share price is $72.78
- It has grown its dividend an average of 17.2% a year since 2000
- It currently pays out $0.47 per share in quarterly dividends
- Its current yield is 2.6%
With these assumptions in mind, if the company keeps growing its dividends at the same rate at which it has since 2000 (17.2% a year), then in 10 years from now you could be collecting a 12.6% annual yield on the shares you buy today.
On one hand, this shows the awesome power of dividend growth investing… for those who can afford to wait a decade.
On the other hand, it shows the problem I pointed out earlier: What if you’re retired or simply can’t afford to wait a decade before collecting a double-digit annual yield from a safe dividend grower?
If only there was a way to get the best of both worlds today… to purchase both a high-quality dividend growth stock today AND collect a double-digit annual income stream from those very same shares over the next 12 months.
Enter the “10% Trade”…
Whether you’re looking to either boost or accelerate the income you collect from a high-quality dividend growth stock, a “10% Trade” may be an ideal solution.
Consider the “10% Trade” I just made yesterday with Microsoft (MSFT).
At current prices and a $0.28 per share quarterly dividend, anyone who buys Microsoft today can expect to collect a 2.9% yield over the next 12 months… yet the “10% Trade” I made yesterday delivered a 2.5% yield immediately.
I was able to essentially collect 86% of a year’s worth of income in DAY ONE of the trade.
If I can repeat this trade over the period of a year, I could end up collecting a 16.8% annual yield from Microsoft.
That’s the power of a “10% Trade.”
Here’s how it works…
Back on January 7, 2014 I bought 100 shares of Microsoft (MSFT) at a purchase price of $36.35 per share… and I simultaneously sold one February 22, $38 covered call for $0.57 per share.
This was actually a “10% Trade”… as it involved selling a covered call on a reasonbly-priced, high-quality dividend growth stock — Microsoft.
Since shares of Microsoft stayed under $38 by the February 22 expiration date, not only did I collect the $57.00 in premium ($0.57 x 100 shares) and $28.00 in dividends ($0.28 x 100 shares), but I got to keep my 100 shares of Microsoft too. After commissions, this worked out to a 1.8% total return in 46 days… which is a 14.0% annualized return.
Since I still owned the shares of Microsoft after this “10% Trade” closed out, I went ahead and sold ANOTHER covered call on my shares yesterday. This time I sold the April 19, $38 covered call for $1.01 per share.
Scenario #1: Microsoft stays under $38 by April 19
If Microsoft shares stay under $38 by April 19 I’ll get to keep my 100 shares again.
I’ll also have received $101 in covered call income ($1.01 x 100 shares).
The covered call income — known as a “premium” in options speak — was collected instantly yesterday.
At the end of the day, if “Scenario 1” plays out I’ll be looking at a $101 profit before the commission.
That may not sound like a heck of a lot, but take a look at the percentages: I received an instant 2.8% yield for selling the covered call ($1.01 / $36.35).
When I subtract out the commission I’m looking at a 2.5% return in 54 days.
Again, if you’re just holding Microsoft for its dividend income, you’d have to wait an entire year to capture a 2.9% current yield. But with my “10% Trade” yesterday I essentially collected 86% (2.5% / 2.9%) of a year’s worth of income in DAY ONE of the trade.
If I can repeat this trade over a period of a year that works out to a 16.8% annual yield… from Microsoft mind you.
Scenario #2: Microsoft climbs over $38 by April 19
If Microsoft climbs over $38 by April 19 my 100 shares will get sold (“called away”) at $38 per share.
In this scenario, not only will I get to keep the $101 in covered call income ($1.01 x 100 shares)… but I’ll also generate $165 in capital gains ($38 – $36.35 x 100 shares) in the process.
In this scenario, before commissions I’ll be looking at a $266 profit.
From a percentage standpoint, this “10% Trade” will deliver an instant 2.8% yield for selling the covered calls ($1.01 / $36.35) and a 4.5% return from capital gains ($38 / $36.35).
After subtracting out the commissions, I’m looking at a 6.5% total return in 54 days.
That works out to a 43.8% annualized yield from Microsoft.
Bottom Line: You can see how either way this “10% Trade” works out I have the opportunity to generate a 10%-plus annualized yield from a safe stock like Microsoft (MSFT).
If I get to keep my shares, compound my income, and “rinse and repeat” this process over and over again to keep lowering my cost basis, great. Or, if I’m forced to sell Microsoft at a 43.8% annualized profit, no problem.
If executed properly, a “10% Trade” can truly offer the best of both worlds: you can buy a high-quality dividend growth stock like Microsoft AND collect a safe double-digit annual income stream to boot over the next 12 months. That could be helpful for retirees or just anyone looking for safe, high-income from some of the best companies in the world.