Selling puts is a great way to purchase shares in companies you like at a predetermined price. In essence, you are getting paid to put in a "limit order."
An investor usually sells a put option if his/her outlook on the underlying security is bullish. The buyer of the put option pays the seller a premium for the right to sell the shares at an agreed-upon price. If the stock does not trade at or below the agreed-upon price (strike price), the seller gets to keep the premium.
Benefits associated with selling 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 your 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. Most put options expire worthless and 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.
Some reasons to be bullish on ArcelorMittal (MT):
- A decent yield of 4.10%
- A levered free cash flow of $1.00 billion
- Payout ratio of 44%
- A good retention rate of 66%
- A free cash flow yield of 8.9%
- A good current ratio of 1.6
- A long term debt to equity ratio of 0.44
- Projected year over year growth rates of 8.43% and 53.7% for 2012 and 2013 respectively
- A five-year cash flow average of 9.31
- Sales increased from $65 billion in 2009 to $93.9 billion in 2011
- Net income surged from $75 million in 2009 to a stunning $2.25 billion in 2011
- EBITDA increased from $1.02 billion in 2009 to $9.2 billion in 2011
- Cash flow per share increased from $4.88 in 2009 to $5.04 in 2011
- A high beta of 2.54 which makes it a good candidate for covered writes. Selling covered calls open up a second stream of income. If one is bullish on the stock, then the high beta is also good for selling naked puts.
- It has an estimated 3-5 year EPS projected growth rate of 21%
- $100K invested for 10 years would have grown to $981K
Suggested Put Strategy For ArcelorMittal:
It appears to be putting in a bottom and retest of the 13.75-14.50 ranges on low volume would be a good confirmation that a bottom is in place. Additionally, if it ends the week on a higher note after testing the stated ranges, it could be construed as another positive development.
The Jan 2013, 14 puts are trading in the 1.77-1.82 ranges. If the stock pulls back to the stated ranges the puts should rise in value by 30-50 cents. For this example we will assume that the puts can be sold at $2.02. For each contract sold, $202 will be deposited into your account.
Benefits of this strategy
You have the opportunity of getting into this play at a much lower price. If the stock trades below the strike price the shares could be assigned to your account. Your final cost will be $12.98. If the stock does not trade below 14, you get to walk away with the premium for a gain of 14.4% in roughly 7 months. This is significantly higher than the current dividend of 4.10%.
If you are bullish on the stock there is really no risk since you initiated the play with the hopes of getting into this stock at a lower price. Thus this strategy should only be employed by those who are bullish on the stock and are looking for a way to purchase more shares at a lower price or get paid for attempting to.
Levered Free Cash Flow = $1.00 Billion
- Percentage Held by Insiders = 0.06
- Free cash flow yield = 8.9%
- Relative Strength 52 weeks = 17
- Dividend 5-year Growth = -12.59
- Cash Flow 5 -year Average = 9.31
- Long term debt to equity = 0.44
- Beta = 2.54
- Quarterly revenue growth =2.3%
- Short ratio = 2.4%
- Quarterly earnings growth = -99%
- Net Income ($mil) 12/2011 = 2259
- Net Income ($mil) 12/2010 = 3005
- Net Income ($mil) 12/2009 = 75
- EBITDA ($mil) 12/2011 = 9294
- EBITDA ($mil) 12/2010 = 7829
- EBITDA ($mil) 12/2009 = 1020
- Net Income Reported Quarterly ($mil) = -1000
- Cash Flow ($/share) 12/2011 = 5.04
- Cash Flow ($/share) 12/2010 = 4.64
- Cash Flow ($/share) 12/2009 = 4.88
- Sales ($mil) 12/2011 = 93973
- Sales ($mil) 12/2010 = 78025
- Sales ($mil) 12/2009 = 65110
- Annual EPS before NRI 12/2009 = 1.5
- Annual EPS before NRI 12/2010 = 1.68
- Annual EPS before NRI 12/2011 = 1.8
- Dividend Yield = 4.10
- Dividend Yield 5 Year Average = 2.70
- Dividend 5 year Growth = - 6.97
- Payout Ratio = 0.44
- Payout Ratio 5 Year Average = 0.25
- Next 3-5 Year Estimate EPS Growth rate = 21.29
- ROE 5 Year Average = 11.19
- Current Ratio = 1.60
- Current Ratio 5 Year Average = 1.39
- Quick Ratio = 0.50
- Cash Ratio = 0.31
- Interest Coverage Quarterly = 1.7
Only investors bullish on the stock should put this strategy into play, as there is a chance that the shares could be assigned to your account if the stock trades below the strike price. This usually takes place on the expiration day as most option players are in the game to make money and not to force the seller of the option to purchase the shares. Investors looking for other ideas might find this article to be of interest - Enterprise Products: Earn 7% Extra In 7 Months, Or get in at $41.70.
It is imperative that you do your due diligence and then determine if the above strategy meets with your risk tolerance levels. The Latin maxim caveat emptor applies - let the buyer beware.
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. Options tables sourced from money.msn.com. Earnings and growth estimates sourced from dailyfinance.com.