General Electric: An Option Strategy That Could Potentially Triple Your Yield

| About: General Electric (GE)

Selling naked puts is a great way to purchase shares in companies you like at a predetermined price. In essence, you are getting paid to wait.

Benefits associated with selling naked puts

  1. In essence, you get paid for entering a "limit order" for a stock or stocks you would not mind owning.
  2. It allows one to generate income in a neutral or rising market.
  3. When you sell a naked put you are in a way acting like an insurance agent. The seller of the option agrees to buy the stock in the future if it drops to a certain level before the option expires. For this, you (the seller) are paid a premium upfront. If this strategy is repeated over and over again these premiums can really help boost you returns over time.
  4. Acquiring stocks via short puts is a widely used strategy by many retail traders and is considered to be one of the most conservative option strategies. This strategy is very similar to the covered call strategy.
  5. The safest option is to make sure the put is "cash secured." This simply means that you have enough cash in the account to purchase that specific stock if it trades below the strike price. Your final price would be a tad bit lower when you add the premium you were paid up front into the equation. For example, if you sold a put at a strike of 20 with two months of time left on it for $2.50; $250 per contract would be deposited in your account.
  6. Time is on your side. Every day you profit via time decay as long as the stock price does not drop significantly. In the event it does drop below the strike you sold the put at, you get to buy a stock you like at the price you wanted. Time decay is the greatest in the front month.

Reasons to be bullish on General Electric (NYSE:GE)

  • GE capital will resume the transfer of funds (in the form of dividends) to its parent company General Electric. GE Capital Now boasts a 10.4% Tier one capital ratio and reported stable Y-O-Y (year over year) profits. GE Capital made a special dividend payment of $4.5 billion to General Electric and is scheduled to follow up with quarterly payments of $475 million every quarter.
  • It announced two acquisitions in the mining industry. It will acquire Australian Industrea, a mining equipment maker for $700 million and privately held Fairchild international.
  • It has extremely strong levered free cash flow of $43.3 billion.
  • Year over year projected growth rates of 20% and 13% for 2012 and 2013 respectively.
  • A decent yield of 3.6%.
  • Strong free cash flow yield of 12.62%.
  • Net income increased from $11 billion in 2009 to $14 billion in 2011.
  • Cash flow per share increased from $2.18 in 2009 to $2.27 in 2011.
  • Annual EPS before NRI increased from $1.16 in 2009 to $1.29 in 2011.
  • A good payout ratio of 51%.
  • A good current ratio of 2.5.
  • A 3-5 year projected EPS growth rate of 12.2%.
  • A good quick ratio of 2.43.
  • A decent interest coverage ratio of 2.41.
  • A decent return of 53% for the past three years.

For investors looking for more data, General electric was extensively reviewed in our recent article titled Is It Worth Getting Into General Electric?

Suggested Put (naked or cash secured) strategy for General Electric

First of all, this strategy should only be employed if you are bullish on GE and would not mind owning this stock at a lower price. If you fall under this category, then you stand to win whether the shares are assigned to you or not; for if they are not you get paid for waiting, and if they are assigned to you, you get in at a considerable concession to the current price.

The correction we spoke of months in advance has come to fruition and appears to be gathering steam; volume on down days continues to increase, and it tends to drop on up days. In the past 20 days trading volume has surged several times past the 4 billion mark. In the last five trading days, it surged twice past the 4.5 billion levels. In comparison when the Dow traded to a four-year new high in April, volume did not even make it to the 4 billion levels. Given this outlook, there is a good chance GE could test the $17 dollar where it has fairly strong support. A daily close below 18 on fairly strong volume will indicate that GE is on course to test the 16.70-17.00 ranges. Divide your money into 2-3 lots and only deploy one lot at a time as stocks have a tendency to overshoot to the upside and downside these days.

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We would wait for GE to test the 16.80-17.00 ranges, and then we would sell puts with strikes in the 15-16 ranges. GE is trading at 18.95 at the moment, and the Dec 17 puts are trading in the 1.09-1.12 ranges. If GE trades in the above suggested ranges it would be fair to assume that the Dec 15 puts, which would be $2 out of the money, would be trading in roughly the same range. For this example, let us assume that we are able to sell the Dec 15 puts for $1.00 If GE trades in the 16.80-17.00 ranges. If the stock trades below 15, there is a good chance that the shares will be assigned to you. If you are assigned the shares, your final cost will be $14, an excellent long term entry price and the yield would rise from 3.6% to 4.85%.

If the shares are not assigned to you, then you walk away with a gain of 6.6% for seven months, which translated to a yearly gain/yield of roughly 11.4%.

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Other interesting companies

For investors looking for additional ideas, we have provided detailed data on four additional companies. An explanation on the many key ratios covered in this article can be found here - Is Caterpillar A Great Long-Term Play?

Company: Atlas Pipeline Partners (NYSE:APL)

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Growth

  1. Net Income ($mil) 12/2011 = 289
  2. Net Income ($mil) 12/2010 = 276
  3. Net Income ($mil) 12/2009 = 60
  1. Cash Flow ($/share) 12/2011 = 3.01
  2. Cash Flow ($/share) 12/2010 = 0.87
  3. Cash Flow ($/share) 12/2009 = 1.79
  1. Sales ($mil) 12/2011 = 1303
  2. Sales ($mil) 12/2010 = 936
  3. Sales ($mil) 12/2009 = 904
  1. Anl EPS before NRI 12/2009 = -0.13
  2. Anl EPS before NRI 12/2010 = -0.65
  3. Anl EPS before NRI 12/2011 = 1.3

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Dividend history

  1. Div Yield = 7.5%
  2. Dividend 5 year average= 18%

Dividend sustainability

  1. Payout Ratio = 0.34
  2. Payout Ratio 5 Yr Average 09 09/2011 = 1.79

Performance

  1. Average EPS Surprise Last 4 Qtr = 168.66
  2. EPS % Change F2/F1 = 83.05
  3. 5 Yr Historical EPS Growth 09/2011 = 5.98
  4. Current Ratio 09/2011 = 0.77
  5. Current Ratio 5 Yr Average = 0.73
  6. Quick Ratio = 0.77
  7. Interest Coverage =10.3

Company: Transocean Ltd (NYSE:RIG)

Growth

  1. Net Income ($mil) 12/2011 = -5725
  2. Net Income ($mil) 12/2010 = 961
  3. Net Income ($mil) 12/2009 = 3181
  1. EBITDA ($mil) 12/2011 = 1945
  2. EBITDA ($mil) 12/2010 = 4494
  3. EBITDA ($mil) 12/2009 = 6098
  4. Cash Flow ($/share) 12/2011 = 19.45
  5. Cash Flow ($/share) 12/2010 = 14.05
  6. Cash Flow ($/share) 12/2009 = 16.73
  1. Sales ($mil) 12/2011 = 9142
  2. Sales ($mil) 12/2010 = 9576
  3. Sales ($mil) 12/2009 = 11556
  1. Annual EPS before NRI 12/2007 = 11.6
  2. Annual EPS before NRI 12/2008 = 14.34
  3. Annual EPS before NRI 12/2009 = 11.39
  4. Annual EPS before NRI 12/2010 = 5.75
  5. Annual EPS before NRI 12/2011 = 1.06

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Performance

  1. Next 3-5 Year Estimate EPS Growth rate = 9.5
  2. EPS Growth Quarterly(1)/Q(-3) = 168.33
  3. Current Ratio 06/2011 = 1.42
  4. Quick Ratio = 1.3
  5. Cash Ratio = 0.9
  6. Interest Coverage Quarterly = N/A

Company: Yamana Gold Inc (NYSE:AUY)

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Growth

  1. Net Income ($mil) 12/2011 = 548
  2. Net Income ($mil) 12/2010 = 451
  3. Net Income ($mil) 12/2009 = 193
  4. Cash Flow ($/share) 12/2011 = 1.43
  5. Cash Flow ($/share) 12/2010 = 1.01
  6. Cash Flow ($/share) 12/2009 = 0.79
  1. Sales ($mil) 12/2011 = 2173
  2. Sales ($mil) 12/2010 = 1687
  3. Sales ($mil) 12/2009 = 1183
  1. Annual EPS before NRI 12/2009 = 0.47
  2. Annual EPS before NRI 12/2010 = 0.61
  3. Annual EPS before NRI 12/2011 = 0.96

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Dividend history

  1. Dividend Yield = 1.6%
  2. Dividend Yield 5 Year Average 12/2011 = 0.9%
  3. Dividend 5 year Growth 12/2011 = 38.4%

Dividend sustainability

  1. Payout Ratio 06/2011 = 0.21
  2. Payout Ratio 5 Year Average 12/2011 = 0.14

Performance

  1. Next 3-5 Year Estimate EPS Growth rate = 14.9
  2. EPS Growth Quarterly(1)/Q(-3) = -125
  3. Current Ratio 06/2011 = 2.23
  4. Quick Ratio = 1.9
  5. Cash Ratio = 1.48
  6. Interest Coverage Quarterly = 12.38

Royal Gold, Inc. (NASDAQ:RGLD)

  1. Net income for the past three years
  2. Net Income 2009 = $38 million
  3. Net Income 2010 = $21 million
  4. Net Income 2011 = $71 million
  1. EBITDA 12/2011 = $191 million
  2. EBITDA 12/2010 = $101 million
  3. EBITDA 12/2009 = $97 million
  1. Total cash flow from operating activities
  2. 2009 = $30.05 million
  3. 2010 = $48.38 million
  4. 2011 = $146.96 million
  1. Cash Flow 12/2011 = 2.55 $/share
  2. Cash Flow 12/2010 = 1.7 $/share
  3. Cash Flow 12/2009 = 1.25 $/share
  1. Anl EPS before NRI 12/2009 = 0.52
  2. Anl EPS before NRI 12/2008 = 0.84
  3. Anl EPS before NRI 12/2007 = 0.79

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Divided history and sustainability

  1. Dividend Yield= 0.9%
  2. Dividend growth rate5 year average = 10.9%
  3. Payout Ratio 09/2011 = 0.28
  4. Payout Ratio 5 Year Average 09/2011 = 0.41

Performance

  1. ROE = 6.14%
  2. Return on Assets = 4.6%
  3. Quarterly Earnings Growth = 32%
  4. Quarterly Revenue Growth = 25%
  1. Current Ratio 09/2011 = 5.5
  2. Current Ratio 5 Year Average = 17.39
  3. Quick Ratio = 5.87
  4. Cash Ratio = 4.17
  5. Interest Coverage =20

Conclusion

The markets should remain in a corrective mode, for the most part, of the second quarter. Long-term investors can use strong pullbacks to slowly start deploying money into long-term investments. A great way to get into a stock at a price of your choosing is to sell puts at strikes you would not mind owning the stock at.

We would once again like to reiterate that only investors who are bullish on General Electric and are looking to get in at a lower price should consider putting this strategy to use. Investors looking for other investment ideas might find this article to be of interest - Is Caterpillar A Great Long-Term Play?

Disclaimer

This list of stocks is meant to serve as a starting point. Please do not treat this as a buying list. It is imperative that you do your due diligence and then determine if any of the above plays meet with your risk tolerance levels. The Latin maxim caveat emptor applies - let the buyer beware.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: EPS and Price Vs industry charts obtained from zacks.com. A major portion of the historical data used in this article was obtained from zacks.com. Data for Ycharts sourced from Ycharts.com Option table sourced from yahoo finance.