In a recent article ("Hedging 5 A-Plus S&P Earnings & Dividend Stocks"), we described the earnings and dividend ranking system by Standard & Poor's and looked at several stocks with the highest possible ranking (A+). In this post, we'll look the highest-ranked stocks with yields over 10%. Recall that the S&P earnings and dividend ranking system starts with a computerized scoring process to measure growth, stability and cyclicality of earnings and dividends over the most recent 10 year period. S&P then reviews and sometimes modifies those scores to account for special considerations a purely mechanical approach might miss. Then it ranks the stocks according to seven grades, from A-plus to C.
To avoid the most thinly-traded high yield names, I looked for stocks yielding over 10% that had market caps over $500 million and average volumes of 700,000 shares traded per day over the last 90 days. As of Tuesday's close, there were approximately 22 optionable stocks that met the criteria. Only five were rated by the Standard & Poor's Earnings and Dividends Ranking system at all, so those were the highest rated names. The table below shows those five names, along with their yields, S&P earnings and dividend ranks, and the current costs of hedging them against greater-than-23% declines over the next several months, using optimal puts.
For comparison purposes, I've added the SPDR Barclays Capital High Yield ETF (JNK) to the table below. First, a reminder about what optimal puts are, and an explanation of the 23% decline threshold. Then, a screen capture showing the optimal puts to hedge one of the names below, Annaly Capital Management, Inc. (NLY).
About Optimal Puts
Optimal puts are the ones that will give you the level of protection you want at the lowest possible cost. Portfolio Armor uses an algorithm developed by a finance Ph.D. to sort through and analyze all of the available puts for your position, scanning for the optimal ones.
In this context, "threshold" refers to the maximum decline you are willing to risk in the value of your position in a security. You can enter any percentage you like for a decline threshold when scanning for optimal puts (the higher the percentage though, the greater the chance you will find optimal puts for your position). Often, I use 20% decline thresholds when hedging, but one of these names, Newcastle Investment Corporation (NCT), was too expensive to hedge using a 20% decline threshold (i.e., the cost of hedging NCT against a greater-than-20% drop was itself greater than 20% of position value, so the app indicated no optimal contracts were found for it). There were optimal contracts available for all of these names using a 23% threshold, so that's the threshold I've used for all of the names below.
The Optimal Put Option Contract For NLY
Below is a screen capture showing the optimal put option contract to buy to hedge 100 shares of Annaly Capital against a greater-than 23% drop between now and October 19th. A note about these optimal put options and their cost: To be conservative, the app calculated the cost based on the ask price of the optimal contract. In practice, an investor can often purchase puts for a lower price, i.e., some price between the bid and the ask (the same is true for the rest of the names below).
Hedging Costs as of Tuesday's Close
The hedging data in the table below is as of Tuesday's close, and is presented as percentages of position values. The yields and S&P earnings and dividend ranks were taken from Fidelity's screener and are as of Tuesday's close as well. Bear in mind that the yields below are annualized, but the hedging costs below are not. Bear in mind also that Fidelity calculates dividend yields by annualizing the most recent dividend paid, so this may not always be indicative of yields going forward.
|Div. Yield||S&P E&D Rank|| |
|JNK||SPDR Barclays Cap. High Yield||7.99%||NA||1.66%**|
*Based on optimal puts expiring in August.
**Based on optimal puts expiring in September.
***Based on optimal puts expiring in October.