The past few weeks have brought the return of extreme volatility and fears of a double-dip recession which has punished cyclical stocks. Out of the cyclical stocks, retailers have seen their valuations hit the hardest. This pattern is looking very similar to what happened to consumer discretionary stocks before the most recent recession. There are two general possibilities for the economy at this point. Option one is that the double-dip concerns are overblown and these stocks will recover in the near-term. Alternatively, the economy could fall back into a recession. Obviously this would be the worst-case for retailers but these are fundamentally sound companies that will recover in time. For long-term investors, there is little to worry about. Anything in the middle between the two extremes and these companies will stagnate and you can collect the modest dividend payments which average above two percent. Not too bad for patient investors.
To capitalize on the volatility, I have highlighted potential option plays for three stocks that I own: Best Buy (BBY), Tiffany (TIF), and Wal-Mart (WMT). All three have hit 2010 lows this week and both BBY and WMT are flirting with 52-week lows. By selling out-of-the-money puts you can keep the premium regardless of whether the options are exercised. This makes the option strategy attractive for volatile environments.
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While Best Buy has recently increased its dividend by 7.1% and Tiffany has seen some bullish articles written about it, Wal-Mart has had some negative news recently. Notably, there are concerns about Chinese manufacturing costs and increasing union pressures. Based on this, I believe that Best Buy has the most attractive risk profile with Tiffany a close second.
Disclosure: Author holds long positions in BBY, WMT, and TIF. Author is short TIF July puts.