SuperValu Covered Call Strategy May Be The Way To Go Heading Into Earnings

Jan.11.12 | About: SUPERVALU Inc. (SVU)

Options are an instrument that investors can use to hedge risk and limit your downside. Selling calls against shares you own is a great form of protection from a possible downside slide in the stock. Using the covered call strategy is also helpful when a stock pays a dividend as investors will get even further downside protection. One stock that has upcoming earnings that a covered call strategy could be successful with is SuperValu (NYSE:SVU).

SuperValu operates over 2000 grocery stores across the Unites States and its headquarters is based in Eden Prairie, Minnesota. Supervalu is in the retail (grocery) services sector and its main competitors are Kroger (NYSE:KR), Safeway (NYSE:SWY) and Wal-Mart (NYSE:WMT). To find out how Supervalu compares to its competitors click on this link.

Supervalu may not be the best company when compared to its peers, but does offer an attractive dividend at the current yield of 4.1%. SuperValu has earnings that will be reported on January 11, 2012 and investors should consider selling upside calls for the following reasons:

1) Supervalu pays more in dividends than it has earned. Supervalu's annual dividend rate, % of dividend change and dividend growth rate are below the industry average. While Supervalu's dividend is higher on a percentage basis vs Wal-Mart, Kroger and Safeway, Supervalu's dividend going higher could be in question. (Description from TD Ameritrade)

2 ) On a positive note, Supervalu's debt to capitol ratio is 81.17, indicating they will have little difficulty in repaying its debt.

3) Supervalu's (RSI) relative strength index on an one year time frame is 61.7; 70 is considered oversold.

4) Supervalu has beaten its last three reported EPS vs. their EPS estimate.

4/14/2011 actual EPS of 0.44 vs. EPS estimate 0.34
7/26/2011 actual EPS of 0.35 vs. EPS estimate 0.33
10/19/2011 actual EPS of 0.28 vs. EPS estimate 0.21

Supervalu has tough competition to compete against especially since Wal-Mart and Costco (NASDAQ:COST) are retail and grocery combinations. On the discount end, dollar stores Family Dollar (NYSE:FDO) and Dollar General (NYSE:DG) have performed well in 2011. With SuperValu being in the middle of retail/grocery store combinations and dollar stores, I believe the best bet for share growth will come from an improved U.S. economy. With more discretionary income people receive, SuperValu will be able to benefit from selling higher cost grocery items and sway away from generics. Any downturn in the economy and SuperValu could continue to face stiff competition.

If you own shares of SuperValu selling a call can give you protection if the stock declines. Earnings are coming up on January 11, 2012 and investors can buy the April 2012 9 dollar strike for around 0.55. Taking 0.55 and subtracting this from the current stock price of 8.27 gives investors protection down to $7.72. This is a over 6% of protection and there will be an upcoming dividend. However, if Supervalu goes above 9, investors will be obligated to buy SuperValu's stock.

Covered calls can be boring, but on a stock that pays out a decent dividend and has been surviving going against big box retailers and dollar stores. Using a covered call for protection may be the way to go heading into earnings.

Good Luck!

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in SVU over the next 72 hours.