When shopping the market for stocks that I would want to own there often plenty of stocks that I would want to own, but would rather own for a cheaper price. Sometimes when initiating a new bullish position on buying stock, an investor's goal is to get in at the cheapest price possible to ensure the best possible gains. One way to buy stock for the price you're comfortable with owning; while getting paid to wait, is by using an options strategy known as the cash secured put.
The cash secured put strategy is for an investor who wants to buy a stock, but would rather wait for a lower price to acquire shares. To employ this strategy investors will sell an out-of-the-money put to a strike price that an investor would want to own shares at. If the stock does decrease to the price of the put investors are selling, the investor will be purchasing stock equal to the amount of puts being sold. If the stock price does not go to the amount of the put being sold, then the investor gets to keep the premium received and won't have any obligation to purchase shares.
When considering the cash secured put strategy; as with any option strategy there are always rules investors should follow before putting on this strategy:
1) Investors should only use this strategy on stocks you want to buy at a cheaper price. Remember your intentions are to buy stock at a cheaper price.
2) I would avoid stocks that have poor fundamentals and technicals.
3) Margin requirements do not apply to cash secured puts since the puts investors are selling are covered by cash. With that being said, investors will need their cash balance equal to the exercise cost of the put you are selling.
4) If you are new to cash secured puts I would recommend staying away from volatile stocks.
5) In the cash secured put strategy, investors are getting paid to wait, so be patient and if the stock doesn't drop to the put being sold, then you will be enjoying the premium received.
6) If I am going to be assigned shares for each put that I am selling, I would focus on companies that pay a decent dividend.
One stock for investors to consider for cash secured puts is Anheuser-Busch InBev (BUD). Anheuser-Busch InBev has been up over 17% since the beginning of the year and can be viewed as a defensive stock. For investors that have been long term holders of Anheuser-Busch, not only have you enjoyed a dividend of $1.18/1.67%, but annual earnings growth since 2010. Anheuser-Busch sells over 200 beer brands across the world and has strong portfolio diversification.
Anheuser-Busch InBev last earnings for Q4 2011 reported a positive surprise of $1.21 on consensus estimate of 0.92 and Anheuser-Busch InBev Q3 2011 earnings also gave a positive earnings surprise. Anheuser-Busch InBev next earnings report comes out on the week of April 30th and investors will find out if third times a charm for positive earnings surprises from Anheuser-Busch InBev.
In the short-term Anheuser-Busch InBev may be fairly valued around $74 with a price to earnings ratio of 19.4, but in the long term I like Anheuser-Busch InBev as a solid defensive play and I would be looking to buy Anheuser-Busch on pullbacks. Anheuser-Busch InBev doesn't have large volume and can have wide bid/ask prices and so I am not currently interested in buying calls. For investors looking to acquire shares, but are worried of a pullback one strategy to consider is the cash secured put. An investor can select an out of the money put that they feel comfortable buying shares at. Investors will receive a premium for the put sold and if the stock doesn't drop to the price of the put you are selling, you get to keep the premium. If the stock drops to the put being sold then potential investors will be obligated to buy shares at the put being sold. If investors already own shares of Anheuser-Busch InBev this can also be a good way to get in at a better price and bring in additional yield.
Trade: Cash Secured Put Sell Anheuser-Busch InBev May 67.50 Put
Premium received from selling May 67.50 put = 1.20 (1.20 x 100 = $120)
Amount of cash required to secure put = Strike price 67.50 x 100 = $67.50
Breakeven = Strike price (-) Premium received 67.50 - 1.20 = $66.30
Below the breakeven price investors will realize a loss,
Max Profit = $120
The cash secured put strategy is not an exciting strategy, but more of a wait and see strategy. For investors wanting to acquire shares of Anheuser-Busch InBev this can be a good strategy for investors to get in at a share price investors want to acquire shares. For investors to be called away using a cash secured put, Anheuser-Busch InBev would have to drop about 4.8% from today's price of $70.90 While in the long term I like the prospects for Anheuser-Busch InBev, in the short term the cash secured put strategy allows investors to profit as long as Anheuser-Busch InBev stays above $67.50 by May 19th expiration.
In my hypothetical portfolio I will be selling the May $67.50 puts and will post an update of the trade via instablog. Thanks For Reading and Good Luck.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.