One of the biggest concerns we hear about in regard to the Dividend Growth Investing (DGI) strategy is how long it typically takes to generate meaningful income.
When we invest for passive income by way of growing dividends — and our starting yields are relatively low — it can takes years (or better, decades) for the magic of compounding to really kick in and to start paying significant income off your initial shares.
If you don’t have that kind of time, there is a way to turbo-charge your income from high-quality dividend growth stocks… even if their current or forward yields are lackluster. How? Sell an option.
Today we’ll show you how to do that with shares of Starbucks (SBUX), one of Daily Trade Alert’s 9 Best Stocks to Own Right Now.
Squeeze HUGE Income Out of Starbucks (SBUX) Shares TODAY
Shares of Starbucks yield 1.9% right now, but by selling a covered call option today we can boost our income significantly — generating an annualized yield of 29.8% to 43.2% in the process.
Here’s how…
As we go to press, SBUX is selling for $85.92 per share and the November 20 $87.50 calls are going for about $3.50 per share.
Our income trade would involve buying 100 shares of SBUX and simultaneously selling one of those calls.
By selling a call option, we would be giving the buyer of the option the right, but not the obligation, to purchase our 100 shares at $87.50 per share (the “strike” price) anytime before November 20 (the contract “expiration” date).
In exchange for that opportunity, the buyer of the option would be paying us $3.50 per share (the “premium”).
There are two likely ways this trade would work out, and they both offer significantly higher income than what we’d collect if we relied on the stock’s dividends alone.
To be conservative, we don’t include any dividends in our calculations for either of the following scenarios. The annualized yields are generated from options premium and applicable capital gains alone. So any dividends collected are just “bonus” that will boost our overall annualized yields even further.
Let’s take a closer look at each scenario…
Scenario #1: SBUX stays under $87.50 by November 20
If SBUX stays under $87.50 by November 20, our options contract would expire and we’d get to keep our 100 shares.
In the process, we’d receive $350 in premium ($3.50 x 100 shares).
That income would be collected instantly, when the trade opens.
Excluding any commissions, if “Scenario 1” plays out, we’d receive a 4.1% yield for selling the covered call ($3.50/$85.92) in 50 days. That works out to a 29.8% annualized yield.
Scenario #2: SBUX climbs over $87.50 by November 20
If SBUX climbs over $87.50 by November 20 our 100 shares will get sold (“called away”) at $87.50 per share.
In “Scenario 2” — like “Scenario 1” — we’d collect an instant $350 in premium ($3.50 x 100 shares) when the trade opens. We’d also generate $158 in capital gains when the trade closes because we’d be buying 100 shares at $85.92 and selling them at $87.50.
In this scenario, excluding any commissions, we’d be looking at a $508.00 profit.
From a percentage standpoint, this scenario would deliver an instant 4.1% yield for selling the covered call ($3.50/$85.92) and a 1.8% return from capital gains ($1.58/$85.92).
At the end of the day, we’d be looking at a 5.9% total return in 50 days, which works out to a 43.2% annualized yield from SBUX.
Here’s how we’d make the trade…
We’d place a “Buy-Write” options order with a Net Debit price of as close to $82.42 ($85.92- $3.50) as we can get — the lower the better. Options contracts work in 100-share blocks, so we’d have to buy at least 100 shares of Starbucks (SBUX) for this trade. For every 100 shares we’d buy, we’d “Sell to Open” one options contract using a limit order. Accounting for the $350 in premium we’d collect, that would require a minimum investment of $8,242.
Hope this helps!
Phil Lamanna and Greg Patrick
P.S. How safe is SBUX’s dividend? We ran the stock through Simply Safe Dividends, and as we go to press, its Dividend Safety Score is 67. Dividend Safety Scores range from 0 to 100. A score of 50 is average, 75 or higher is excellent, and 25 or lower is weak. With this in mind, SBUX’s dividend appears Safe, with an unlikely risk of being cut. Learn more about Dividend Safety Scores here.
P.P.S. We’d only make this trade if: 1) we wanted to own the underlying stock anyways 2) we believed it was trading at a reasonable price 3) we were comfortable owning it for the long-haul in case the price drops significantly below our cost basis by expiration and 4) we were comfortable letting it go if shares get called away. To be mindful of position sizing, except in rare cases, the value of this trade wouldn’t exceed 5% of our total portfolio value. In addition, to minimize taxes and tax paperwork, we would most likely make this trade in a retirement account, such as an IRA or 401(k).
Please note: We’re not registered financial advisors and these aren’t specific recommendations for you as an individual. Each of our readers have different financial situations, risk tolerance, goals, time frames, etc. You should also be aware that some of the trade details (specifically stock prices and options premiums) are certain to change from the time we do our research, to the time we publish our article, to the time you’re alerted about it. So please don’t attempt to make this trade yourself without first doing your own due diligence and research.
Source: Dividends and Income