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Cal-Maine Foods, Inc. (CALM) has a dynamic business model built around three things: 1) owning chickens, 2) buying feed, and 3) selling eggs. Based on its history of paying dividends, its return-on-assets, and its current ratio, it appears to be a pretty good company.

The price of Cal-Maine's stock has fluctuated from less than 27 dollars per share in early October to as high as 34 dollars in December, and it closed Friday at $29.04. Cal-Maine's share price seemed to fall first in October and then for a second time last week on "news" of high commodity prices. At 29 dollars per share, the stock offers p/e ration of 9.22 and dividend yield of 3.5%. To me, these number are "nice," but not quite good enough to start buying.

I am bullish on Cal-Maine. High commodity prices have cut in to the company's bottom line and they may continue to do so in the future (see press release here), but I believe that the prevailing high commodity prices are the result of rank financial speculation, and they are bound to come down at some point. Alternatively, if we really are stuck with commodity prices 25%-50% higher than in the past, I believe that inflation will drive up egg prices to the point that Cal-Maine's new revenue would catch up to the higher costs.

The recent fall in Cal-Maine's share price presents a great opportunity for the value investor to use another tool in the tool-box, stock options. The seller of a put option agrees to buy stock at a pre-determined price, while the buyer of the put pays the seller a premium today in exchange for the right to sell in the future.

Insurance companies make money by taking premiums and agreeing to pay claims if bad things happen in the future. You are not an insurance company; you cannot afford to try to make money by taking premiums now in exchange for the obligation to pay out more if bad things happen in the future. But what if you could get paid a premium now for something that might not be so "bad?" In this case, the "bad" event would be a fall in Cal-Maine's share price. This might be bad from the point of view of Cal-Maine's current stockholders, but value investors should relish such an opportunity to buy undervalued stock.

On Thursday, I sold a $30 put on Cal-Maine with a May 2011 expiration for $301.00 (and I paid a commission of about $1.10). This means that in exchange for $300.00 today, I agreed be ready to buy 100 shares of Cal-Maine at a price of $30.00 per share at any time between now and May 20, 2011. By selling this put, I've in effect "created" a price for myself of $27.00 per share.

There is a real risk to this strategy; if Cal-Maine's price drops to let's say $24.00 dollars a share, I will be paying $27.00 for what I could have bought at $24.00. That's a risk I'm willing to take, because at 27 dollars a share, I would be buying, and at 24, I would buy more.

There's also a substantial likelihood that Cal-Maine's price goes up above $30.00 and the put option never gets exercised. In that case, I've made a profit of $300.00 (the amount of the premium) by merely keeping $2,700 dollars of my own money available to buy the shares. This outcome means a return of 11% on my money in about four-and-a-half months. It bears remembering that even though the gain is taxable, an 11% return on cash means you can take the money and buy more stock in another undervalued company, while an 11% return in appreciated stock means nothing until you sell it.

Moreover, you can buy the put back at any time between now and May 20. As time passes between now and May, the value of the put will converge on the difference between the existing share price and the exercise price of $30.00.

On Thursday, May 30 puts on Cal-Maine traded sold for as much as $325.00. Like I said, I sold one for $301.00. I would probably sell another until the premium goes to $450 because I already have some exposure, but I think this represents a great deal at Friday's closing price.

Disclosure: I am long CALM.

Source: Cal-Maine Foods: Conservative Value Investors Should Sell Puts