Well, another day goes by and I still have no clue where the market is headed.
Remember I had the same dilemma back in March?
At the time, my solution was a “10% Trade” with Cisco (CSCO). In short, it was an undervalued dividend-grower that:
1) I would be happy owning for the long-haul if the market were to tank (for its growing dividend), or…
2) I would be happy letting go of for a double-digit annualized profit if its price were to rise in a relatively short period of time. (If you’re curious how the trade turned out, go here.)
Isn’t there room for stocks to continue to go higher from here?
Or is the market poised for a pullback?
While I still don’t know the answers to these questions, I continue to believe that following a “10% Trade” script for a portion of my portfolio is a solid course of action.
Today, however, my security of choice for this kind of trade is McDonald’s (MCD).
I had actually been on the lookout for another potential “10% Trade” with this Dividend Champ ever since my last MCD trade closed out back on May 17.
Yesterday morning, when shares dropped below $100, I saw a fresh opportunity… so I jumped on it.
Capturing a 12.7% to 14.2% Annualized Yield from McDonald’s
Yesterday, at approximately 11:09am EST, I bought 100 shares of McDonald’s (MCD) for $99.96 per share and simultaneously sold one August 16, $100.00 covered call for $1.76 per share.
After commissions, this “10% Trade” immediately reduced my cost basis to $98.41 per share.
There are only two possible ways this trade will work out… and they both spell at least double-digit annualized yields…
Scenario #1: McDonald’s stays under $100.00 by August 16
If McDonald’s stays under $100.00 by August 16 I’ll get to keep my 100 shares.
In the process I’ll also have received $176 in covered call income ($1.76 x 100 shares).
The covered call income — known as a “premium” in options speak — was collected instantly yesterday.
If “Scenario 1” plays out, after subtracting the commissions, I’m looking at a profit of $155.27 — or a 1.6% return in 40 days.
That may not sound like a heck of a lot, but it works out to a 14.2% annualized yield from McDonald’s. That’s quadruple the stock’s “regular” forward annual dividend yield of 3.2%.
Or look at it another way: I’m collecting 1/2 of the stock’s “regular” annual income (1.6% yield vs. 3.2% yield) in about 1/10 of the time (40 days vs. 365 days).
Scenario #2: McDonald’s climbs over $100.00 by August 16
If McDonald’s climbs over $100.00 by August 16 my 100 shares will get sold (“called away”) at $100.00 per share.
I’ll have generated $176 in covered call income ($1.76 x 100 shares) and $4.00 in capital gains ($100.00 – $99.96 x 100 shares).
In this scenario, after commissions I’ll be looking at a $139.28 profit.
From a percentage standpoint, after subtracting out the commissions this “10% Trade” will deliver a 1.4% total return in 40 days.
That works out to a 12.7% annualized yield from McDonald’s.
Bottom Line: Either way this “10% Trade” works out offers me the opportunity to generate a 10%-plus annualized yield from McDonald’s (MCD) — a high-quality, dividend growth stock that appears undervalued at current prices (My friend and colleague Jason Fieber pegs MCD’s “fair value” at $115.56). So 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 McDonald’s for a 12.7% annualized return, no problem. This is why I’m such a fan of “10% Trades”… and why I’ll continue to take advantage of them to boost my income regardless of which direction the market could be headed.
Greg Patrick
TradesOfTheDay.com