In recent years, it has been challenging to figure out how to get any type of return on your cash. Checking accounts, savings accounts, and money market mutual funds are paying next to nothing. Short-term certificates of deposit (CDs) likewise have yields that leave much to be desired. In this article, I would like to present one possibility for putting to work any excess cash you may have built up that you don't want sitting around earning just a few basis points but also don't want to invest at today's prices.
Even if you don't believe that "cash is king," it is hard to deny that among corporations, Apple (AAPL) is the "king of cash." According to its 10-K filed October 31, 2012, Apple had $121.251 billion of "cash, cash equivalents and marketable securities" at the end of fiscal year 2012, up from $81.570 billion one year prior and $51.011 billion at the end of fiscal year 2010. Companies in the technology sector are generally known for having lots of "cash," but Apple takes it to a whole new level. As an aside, I put "cash" in quotation marks because the $121.251 billion is technically not entirely cash. Hence the use of the words "cash equivalents" and "marketable securities" in the 10-K. Investors, however, generally refer to the entire amount as cash.
To illustrate just how massive Apple's cash pile is, let's compare its number to that of other technology giants. Microsoft's (MSFT) latest 10-Q shows a recorded basis of $76.682 billion for its cash, cash equivalents, short-term investments, and equity and other investments. Google's (GOOG) most recent 10-Q lists $45.724 billion in "cash, cash equivalents, and marketable securities." Cisco's (CSCO) latest 10-K lists $48.716 billion in "cash and cash equivalents and investments." Qualcomm (QCOM) lists $26.837 billion in "cash, cash equivalents and marketable securities" on its recently filed 10-K. And International Business Machines (IBM) latest 10-Q showed $12.254 billion in "cash and cash equivalents" and "marketable securities."
Regarding the huge sums of cash in the technology sector, the challenge these companies have returning that cash to shareholders due to large portions of it being held overseas has widely been discussed. Apple, for example, has $82.6 billion of its $121.251 billion held by foreign subsidiaries. Not surprisingly, its recent 10-K states, "The Company anticipates the cash used for future dividends and the repurchase program will come primarily from current domestic cash and from on-going U.S. operating activities and the cash generated from such activities" [emphasis added]. But just because cash is held overseas and not returned to shareholders in the form of dividends or buybacks does not mean that shareholders won't benefit from it in the form of its supporting the stock price.
Apple may not be using its $82.6 billion held overseas to pay dividends and repurchase stock, but the company is given credit for that money when it comes to discussing cash per share. According to NYSE.com, Apple currently has 940.692 million shares outstanding. Its cash, cash equivalents and marketable securities therefore equal $128.90 per share. Using put options, investors can take advantage of Apple's cash per share to create cash-like positions and dramatically increase the returns on their extra funds sitting idle in money markets and bank accounts.
For example, let's take a look at Apple's January 17, 2015 expiring $270 puts. The $270 strike price is currently the lowest one offered for that expiration date. At the moment, it is bidding $14.30. An investor selling that put for $14.30 in a cash account, would realize a return on his or her money of 5.30% over the next 26 months, an annualized return of approximately 2.44%. If you believe Apple's best days still lie ahead, then it is not far-fetched to think about the company's "cash" pile being much closer to $270 per share in January 2015 than the current $128.90 of cash per share. In that case, your risk would be owning Apple's stock only slightly above its future cash levels.
With a 2.44% annualized return over the next 26 months, investors would far outpace the returns of checking, savings, and money market accounts (remember the Fed's pledge to keep rates at zero until at least mid-2015) and would also beat CDs with maturities in the 26-month range. The downside of this strategy is that you may be forced to purchase Apple at $270 per share by January 2015 (cost basis reduced below $270 by the amount of the put premium). Assuming no growth in the company's dividend between now and then, you would own the stock with a yield-on-cost of 4.145% (cost basis is $255.70, ex-commissions; $270 strike price minus $14.30 put premium).
If 26 months is too long of a period for you to potentially lock up your cash, Apple's January 18, 2014 $270 puts are currently bidding $4.75. An investor selling that put expiring 14 months from now in a cash account would realize a return of 1.76% or approximately 1.51% annualized. A 14-month CD won't get you that type of return, nor will a checking, savings, or money market account. In a worst case scenario, you will purchase the stock at $270 per share, and your cost basis will be $265.25 ($270 strike price minus $4.75 put premium, ex-commissions). I should note that the bid-ask spread on the January 18, 2014 $270 put option is quite large. If I were selling that put, I would search for hidden liquidity somewhere in the $5.00 to $5.25 range.
It is hard to believe that on February 25, 1997, Moody's downgraded Apple's senior unsecured debt to B3 and its subordinated debt to Caa. Nowadays, if Apple had any debt, it would likely be rated Aaa/AAA or, at the worst, Aa1/AA+ by Moody's and S&P respectively. Unfortunately for investors who would be interested in parking cash in Apple bonds, there are none available. If you'd like to take advantage of Apple's strong balance sheet and large cash position in a bond-like way but want more of a return than the $270 put options provide, consider moving a bit closer to at-the-money and selling those put options.
The table below outlines strike prices, bids, and returns for selected Apple January 18, 2014 expiring put options. Notice that the returns certainly outpace many short-term fixed income yields. Furthermore, should you be assigned shares of the stock, your cost basis will be in the mid-to-upper single digit P/E range. Of course, you are still getting long equity rather than senior bonds. But when a company has no bonds to purchase, this is the way to go if you want to create a bond-like position. Think of this as a convertible bond that provides you more of a coupon than you would otherwise get on a company with Aaa/AAA rated debt but also no upside potential should the stock rocket higher.
January 18, 2014 Puts
14 month return
The next table shows strike prices in a similar range (no $5 increments available) but this time for the put options expiring January 17, 2015. There are also plenty of other option expiration dates to choose from. The 14 month and 26 month options were chosen for investors who want to build CD-like or short-term bond-like positions using Apple's stock.
January 17, 2015 Puts
26 month return
For investors who want more detail about Apple's "cash" position before determining which far out-of-the-money strike price to park cash in, what follows are some notable facts.
1. $92.122 billion is invested in marketable debt securities with more than one year to maturity. Generally, Apple classifies securities as "Long-Term Marketable Securities" if they have one to five years to maturity.
2. 92% of the growth in "cash" from the end of fiscal year 2011 to the end of fiscal year 2012 went into investments classified as "Long-Term Marketable Securities."
3. Apple has just $3.109 billion categorized as cash.
4. Apple has $20.108 billion invested in everybody's favorite investment to hate, U.S. Treasuries. Just under $14 billion of that total is invested in Treasury notes (not T-bills as many might expect).
5. The single largest component of Apple's "cash," $46.821 billion, is invested in corporate securities. Slightly over 84% of the $46.821 billion has a maturity greater than one year.
6. Apple also owns U.S. agency securities, non-U.S. government securities, CDs, commercial paper, municipal securities, mortgage-backed securities, and asset-backed securities.
Previously, I mentioned the cash positions of several other well-known companies. In the table that follows, I used the cash, cash equivalents, and marketable securities detailed in Microsoft's, Google's, Cisco's, Qualcomm's, and IBM's latest 10-Ks or 10-Qs, along with the current shares outstanding (according to NYSE.com) to calculate the cash per share for each company.
Cash per share
If you are interested in applying the same type of strategy outlined in this article for Apple to the companies in the table above, here are a few strike prices to consider for your idle cash (all returns quoted assume puts were sold in a cash account):
1. Microsoft's January 18, 2014 $15 put bidding $0.28. An investor selling that put would earn 1.87% over the next 14 months or approximately 1.60% on an annual basis. If that investor were assigned shares of the stock, the cost basis would be $14.72 (ex-commissions), which is lower than Microsoft's 2009 bear market low.
2. Google's January 18, 2014 $400 put bidding $7.00. An investor selling that put would earn 1.75% over the next 14 months or approximately 1.50% on an annual basis. If that investor were assigned shares of the stock, the cost basis would be $393.00 (ex-commissions), a number that is below several key support levels from 2007, 2008, 2010, and 2011.
3. Cisco's January 17, 2015 $10 put bidding $0.59. An investor selling that put would earn 5.9% over the next 26 months or approximately 2.72% on an annual basis. If that investor were assigned shares of the stock, the cost basis would be $9.41 (ex-commissions), only slightly higher than today's cash per share.
4. Qualcomm's January 17, 2015 $35 put bidding $2.19. An investor selling that put would earn 6.26% over the next 26 months or approximately 2.89% on an annual basis. If that investor were assigned shares of the stock, the cost basis would be $32.81 (ex-commissions), which is in the neighborhood of several key support levels dating back to 2005.
5. Regarding IBM: When examining the strike prices and premiums available on its option chain, previous major support levels on the stock's chart, and thinking about the potential buffer its very low level of cash per share (relative to the stock price) might provide, I'd prefer to look elsewhere for creating a bond-like position out of a company's put options.
Remember that when selling puts, you are taking on the risk of being assigned shares of the company's stock at the strike price of your choosing. If assigned, you will own an asset at the bottom of the capital structure. Common stock does not mature at par, and a stock could easily provide losses during times when the bonds continue to provide gains. The strategy outlined in this article is meant for investors who want a bit more yield than shorter-dated bonds and cash-like financial instruments provide and a relatively high chance of not being assigned shares of the stock. But these investors should also be willing to take on the risk of possibly being assigned shares in a company at levels far below where the stocks trade today.
I'd like to take this opportunity to thank readers who helped propel my new book "The 5 Fundamentals of Building a Retirement Portfolio," into the top three in Amazon.com's "Hot New Releases" for "Personal Retirement Planning" and "Introduction to Investing." The book spent a significant amount of time there during the past few weeks and was even the number one "Hot New Release" for "Personal Retirement Planning." I am most appreciative. Thank you.
Disclosure: I am long CSCO.