I have no idea where the market is headed.
On one hand, history says that when stocks hit new highs they could keep going up. On the other hand, Tom Bowley is as nervous about the market as he has been since 2007.[hana-code-insert name=’adsense-article’ /]What to do?
In my specific situation the answer is obvious…
I want to make a “10% Trade” on an already cheap dividend-grower that:
1) I’d be happy owning for the long-haul if the market tanks (for its growing dividend), or…
2) I’d be happy letting go for a double-digit annualized profit if its price rises in a relatively short period of time.
The “10% Trade” I made with Cisco (CSCO) yesterday fits the bill.
I’ve actually been on the lookout for potential “10% Trade” opportunities with Cisco ever since Amber Lee Mason’s alert last week… and with the market’s pullback yesterday on concern over Ukraine-Russia tensions I made a move.
Capturing a 15.2% to 22.2% Annualized Yield from Cisco
At 11:06am EST yesterday morning I bought 200 shares of Cisco (CSCO) for $21.59 per share and simultaneously sold two May 17, $22 covered calls for $0.59 per share.
After commissions, this “10% Trade” immediately reduced my cost basis to $21.11.
There are only two possible ways this trade will work out… and they both spell at least double-digit annualized yields…
Scenario #1: Cisco stays under $22 by May 17
If Cisco shares stay under $22 by May 17 I’ll get to keep my 200 shares.
In the process I’ll also have received $118 in covered call income ($0.59 x 200 shares) and $38 in quarterly dividends ($0.19 x 200 shares).
The covered call income — known as a “premium” in options speak — was collected instantly yesterday.
I’ll collect the dividend income on April 23 when Cisco pays its next dividend.
At the end of the day, if “Scenario 1” plays out I’ll be looking at a $156 profit before commissions.
That may not sound like a heck of a lot, but take a look at the percentages: I received an instant 2.7% yield for selling the covered call ($0.59 / $21.59) and I’ll get a 0.9% yield from the upcoming dividend ($0.19 / $21.59).
When I subtract out the commissions I’m looking at a 3.1% return in 75 days… which works out to a 15.2% annualized yield, from a cheap, safe stock like Cisco.
And since I made this trade in my Roth IRA, when it comes time for me to withdraw, any income I generate will be tax-free.
Scenario #2: Cisco climbs over $22 by May 17
If Cisco climbs over $22 by May 17 my 200 shares will get sold (“called away”) at $22 per share.
In this scenario, not only will I get to keep the $118 in covered call income ($0.59 x 200 shares) and the $38 in quarterly dividends ($0.19 x 200 shares)… but I’ll also generate $82 in capital gains ($22 – $21.59 x 200 shares) in the process.
In this scenario, after commissions I’ll be looking at a $238 profit.
From a percentage standpoint, this “10% Trade” will deliver an instant 2.7% yield for selling the covered calls ($0.59 / $21.59)… a 0.9% yield from the upcoming dividend ($0.19 / $21.59)… and a 1.9% return from capital gains ($0.41 / $21.80).
After subtracting out the commissions, I’m looking at a 4.6% total return in 75 days (two and a half months).
That works out to a 22.2% annualized yield from Cisco.
Bottom Line: Either way this “10% Trade” works out offers me the opportunity to generate a 10%-plus annualized yield from Cisco (CSCO)… entirely tax-free. If I get to keep my shares, compound my income, and “rinse and repeat” this process to continue lowering my cost basis, great. Or, if I’m forced to sell Cisco at a 22.2% annualized profit, no problem. This is why I’m such a fan of “10% Trades.”… especially when I can make them in an after-tax account like a Roth IRA.
P.S. I realize the average financial advisor may think it’s crazy to trade individual stocks in a retirement account… no matter how safe the stocks appear. And in many cases they’re probably right — especially if you’re not properly diversified and you’re heavily dependent on the income from this account. So I urge you not to blindly follow my lead today without first speaking to a professional advisor or doing your own due diligence and research.