In the late 90s, looking for reasonable valuations in the technology sector would have been a pointless exercise - there were virtually none to be found. What has happened since then is that many big tech companies have produced impressive revenue and earnings growth while their stock prices have languished. As a result, tech currently offers some of the best values in the stock market.
The Stock: Intel Corporation (INTC)
Intel is the world's largest semiconductor chip manufacturer. To the casual computer user it is best known for its "Intel Inside" advertising campaign and stickers on computers. While its PC Client Group operating segment still accounts for about two thirds of net revenue, growth now increasingly comes from its other operating segments: Data Center Group, Other Intel Architecture, and Software and Services.
Intel is a truly global company and demand for its products outside the U.S. is increasingly driving growth.
Source: Intel 2011 Annual Report.
Between 2002 and 2011, diluted EPS had an impressive CAGR of 20.1%. That growth did not take the form of a smooth line; most of it came in the last two years.
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If Intel manages to grow earnings even modestly from now on, the stock will prove to be cheap at this point. The trailing P/E is 10.6 - much lower than the stock's five year average of 17.1. The annual dividend yield is currently 3.4%. As the graph below shows, Intel returns a lot of cash to shareholders by paying dividends and buying back shares.
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Source: Intel 2011 Annual Report.
There are probably two main risk factors that are holding this stock back. One is the cyclical nature of the semiconductor industry and the other is the dominance of ARM-based processors in mobile devices. The first concern I think is valid and may prevent the stock from appreciating much in the near term. Regarding ARM-based processors I would say that this has been true in the last two years and it has not prevented Intel from producing record earnings. If anything, mobile devices remain an opportunity for growth and with Intel's massive R&D machine, financial resources, and leadership in chip manufacturing the company should not be counted out yet.
The Covered Call: $26 / Nov. 2012
While I consider Intel to be a fairly low risk stock, it is in a cyclical business with the potential for technological disruption. As a result, option premiums are juicier than on very low risk stocks such as Becton Dickinson (BDX), which I wrote about recently. This time I am looking at options expiring on November 16.
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The graph shows how annualized returns are broken down for each strike price from 25 to 28. My favored choice is the 26 dollar strike price. I am expecting some headwinds in the global economy and the stock market in the coming months, so I am emphasizing income from dividends and options premiums over capital gains. On an annualized basis, this trade has a static return (return that assumes no change in the stock price) of 14.7%, and a maximum annualized return of 31.1%, if INTC closes above 26 on the day of expiration. The option premium (63 cents per share) provides a 2.4% buffer against capital losses. All calculations are based on closing prices on Thursday, August 23.
Disclosure: I am long INTC.
