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September and October are typically volatile times in the stock market. But that volatility can help create investment opportunities that could be particularly interesting.

Unfortunately our friends at the FED are buying up all the bonds and have driving money market and other cash investments into the ground. So if you have some cash to put to work you will not even get close to the inflation rate these days. In other words, typical cash investments are sure money losers. And stocks may be getting a little toppy these days so putting more money into the SPY S&P 500 ETF might be risky.

Let me start with some investment criteria first:

  • We only want to invest in highly rated stocks.
  • We only want to invest in widely traded stocks with significant daily trading volume.
  • Any new position added to the portfolio should help further diversify the entire portfolio.
  • We want to create a bond substitute so we will be looking for stocks with over 4.5% dividend yield.
  • We want to manage possible losses so we will shoot for 8% to 10% downside protection.
  • In addition to the 4.5%+ dividend return we would like to build in at least a possibility of a minimum 10% annualized return on the investment.
  • We believe interest rates will remain low (under 4%) for the next few years.

You can do your own screens using this criteria. When we ran the initial screen for highly rated dividend payers about 150 possible stocks popped up. Many of those did not meet our other criteria.

Your portfolio may have a different set of holdings but our portfolio seemed to be a little light on energy related stocks. We focused on British Petroleum/BP PLC (BP).

BP engages in the energy business worldwide. It operates through Gas & Low Carbon Energy, Oil Production & Operations, Customers & Products, and Rosneft segments. It produces and trades in natural gas; offers biofuels; operates onshore and offshore wind power, and solar power generating facilities; and provides de-carbonization solutions and services, such as hydrogen, and carbon capture, usage and storage. The company is also involved in the convenience and mobility business, which manages the sale of fuels to wholesale and retail customers, convenience products, aviation fuels, and Castrol lubricants; and refining, supply, and trading of oil products, as well as operation of electric vehicle charging facilities. In addition, it produces and refines oil and gas; and invests in upstream, downstream, and alternative energy companies, as well as in advanced mobility, bio and low carbon products, carbon management, digital transformation, and power and storage areas. BP was founded in 1908 and is headquartered in London, the United Kingdom.

At first look BP was not a natural for our portfolio because we try to be more “green” minded within reason but recent BP initiatives show that they are trying to migrate the company and its products to less carbon generating alternatives. We can give them points for that.

Here’s the trade found… BP stock is trading around 26.01 so look at a January 20, 2023 25 covered call for a 22.50 debit. That trade provides 14% downside protection and in addition to the 5.19% dividend yield the minimum annualized (for comparison purposes only) return should be 11.73%.  If so some reason the BP stock is called away early you will see a simple 15.56% profit over the term of the trade so your annualized return could be much higher. And because you entered the trade at 22.50 which is lower than the stock price your effective annualized dividend return is really 6%. and the next dividend pay date probably scheduled for this December.

Yes your upside is capped for this trade but that is offset by the generous dividend and the downside protection.

Smart investing is about finding the right balance.

We have already traded this a few times over the last few days since we like to average into positions.


IMPORTANT DISCALIMER: Investing in stocks, bonds, option and other financial instruments involve risks and may not be suitable for everyone. This article discusses exchange-traded options issued by The Options Clearing Corporation and are intended for educational purposes. No statement in this article should be construed as investment advice or a recommendation for the purchase or sale of any security or other financial instrument or to adopt a particular investment strategy. The author may hold stock and option positions in the securities shown in this article.

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