On June 25, I bought 100 shares of the stock for $90.71 per share and simultaneously sold one August 16, $92.50 covered call for $1.05 per share.
By the time expiration came around in August, shares had sunk to around $84.80… so my contract expired worthless and I held onto the stock.
As I mentioned in the Track Record section (where I track the results of these trades), the plan was to hold onto shares until they rebounded before selling another round of calls to generate more income and reduce my cost basis further. In the meantime, I’d collect Deere’s steady dividend.
Interestingly, Deere went on to drop as much as 11% by early October, but it’s since rebounded back to about where I bought it.
Take a look…
With this in mind, yesterday I sold another covered call on my 100 shares. This was the plan.
Specifically, I sold one January 17, $90.00 covered call for $1.57 per share.
Of course, by selling a call here with a strike price of just $90 (which is $0.71 per share below my cost), I’m limiting my potential upside. This is a legitimate concern, especially since Deere has pretty much been in an uptrend since early October and could continue to climb from here.
However, there are also a number of catalysts that point to a lower share price in the relatively near future (see here, here and here). Personally, I’d prefer to limit my risk, which is ultimately why I sold a call here.
That said, there are only two possible ways the trade I made yesterday will work out… and while only one of them offers a 10%-plus annualized yield (Scenario #1), both offer the potential to generate at least twice the stock’s “normal” annualized income.
Here’s what I mean…
Scenario #1: Deere stays under $90.00 by January 17
If Deere stays under $90.00 by January 17, I’ll get to keep my 100 shares.
In the process I’ll also have received $157 in covered call income ($1.57 x 100 shares).
The covered call income — known as a “premium” in options speak — was collected instantly yesterday. It was deposited in my brokerage account.
At the end of the day, if “Scenario 1″ plays out I’ll be looking at $148.26 in profit after commissions.
On a percentage basis, I received an instant 1.7% yield for selling the covered call ($1.57 / $90.71).
When I subtract out the commissions I’m looking at a 1.6% yield in 45 days… which works out to a 13.3% annualized yield. That’s almost five times Deere’s “regular” annual dividend yield of 2.8%. I’ll take it!
Scenario #2: Deere climbs over $90.00 by January 17
If Deere climbs over $90.00 by January 17 my 100 shares will get sold (“called away”) at $90.00 per share.
In this scenario, I’ll get to keep the $157 in covered call income ($1.57 x 100 shares), but I’ll lose $71.00 in capital gains (($90.00 – $90.71) x 100 shares) in the process. Remember, I bought the stock at $90.71 per share but I’d be selling it at $90.00 per share.
In this scenario, after commissions I’ll be looking at a profit of just $69.31.
From a percentage standpoint, this “10% Trade” will deliver an instant 1.7% yield for selling the covered call ($1.57 / $90.71) and a -0.8% return from a capital loss (-$0.71 / $90.71).
After subtracting out the commissions, I’m looking at a 0.8% total return in 45 days, which works out to a 6.2% annualized yield from Deere.
Not a true “10% Trade” but still respectable, as it’s still more than double Deere’s “regular” annual yield of 2.8%. And it’s a heck of a lot better than where I was back in early October when Deere was down roughly 11% from my purchase price.
Don’t get me wrong though, I still like Deere as a long-term holding. I just think it’s wise to heed the relatively near-term warnings the stock is facing and put my money to work in better income-generating opportunities. That’s why I’m willing to let my shares go for a smaller-than-normal profit if I have to.
Greg Patrick
TradesOfTheDay.com
P.S. The reason I’ve gone public with many of my real-life, real-money “10% Trades” is so you can see for yourself how entirely possible it is to boost your annualized yield on high-quality dividend growth stocks. Just keep in mind that these trades aren’t intended to be specific recommendations for you as an individual. Everyone has different financial situations, risk tolerance, goals, time frames, etc.
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