07/08/13 Covered Call Pick: Conocophillips (NYSE:COP)
Conocophillips (COP) is an American multinational energy corporation engaged in the exploration and production of crude oil and natural gas. Located in the Houston, Texas, with presence and projects in over 30 countries, it is the world's largest pure-play in energy exploration after spinning off its downstream assets into Phillips 66 (NYSE:PSX) in April of 2012.
Conocophillips has a market capitalization of $76.18 billion with 1.22 billion outstanding shares.
COP currently pays a $0.66 quarterly dividend for a current yield of 4.2%.
With a beta of 0.96, COP currently trades with a volatility similar to the marketplace.
Energy makes the world go round, but the two trickiest things involved in getting the energy required to run the industry and technology of our world are 1.) Finding it, and 2.) Getting it out of the ground. In terms of the first challenge there is no larger or better company in the world at it than COP. With growing energy demands around the world developing every year, finding the energy we need is becoming more important. COP has some of the most sophisticated ground scanning technology combined with seismic sensing equipment and geological prediction technology in order to predict reservoir development and characterization with the greatest accuracy in the world. By being able to more accurately target the size, scope, and location of the best energy reservoirs, COP is able to more efficiently get the energy out of the ground and into the hands of the industries that need it. They has lead them around the world in search for the best wells, and they have to the technology developed to get to that energy in a variety of situations and conditions - even in the freezing cold of the Arctic circle. We believe that the technology and innovation the company possesses combined with their leading position as the best energy explorers in the business along with the steady increasing energy demand in a variety of locations, positions COP to be integral in the energy business moving forward.
In terms of the stock there are a lot of attractive characteristics. The company has a P/E ratio of 11, which is a discount to the industry average of 14, and a deep discount to the S&P 500's ratio of 18.86. Their cash flow from operations per share is an impressive $11.32, and the company sports a hefty 4.2% dividend. All of these positive attributes has helped create the 1.2 Up/Down Ratio the stock currently sports. The downside we see for the stock though is the fact that they are not projecting any increase in earnings this year over last year's, and a lack of earnings growth is something we do consider to be a problem. Yet COP has been working on streamlining its business by selling or spinning-off its less profitable or otherwise un-focused business segments, with the largest being the spin-off of Phillips 66 (PSX) last April. The effects of these changes in structure won't be noticed immediately, but rather as efficiency improves over time. Because of focus on energy exploration and its importance in industry, as well as the strong dividend the company is handing out, we are willing to hold the stock until they begin to reap the rewards.
For a Covered Call Strategy we are recommending the February 2014 $62.50 Call. Because of the lack of earnings growth projected for this year, and the fact that the stock is only 3.8% off of its recent 52-week high, we want to keep our Call strategy conservative and focus on the income we can generate from the dividends and premium. If the stock dips on earnings this year we will have some nice downside protection and be able to own the stock when things begin to pick up next year with the 10% projected earnings growth in 2014. If the stock does get called away, we have picked up a nice premium and a handful of dividends for our time. That is why we are recommending buying COP and selling the February 2014 $62.50 Call.
- Buy 100 shares of COP @ $62.67 = $6,267 + Commission ($12.95) = $6,279.95
- Write 1 COP February 2014 $62.50 Call @ $305 - Commission ($8.70) = $296.30
Note: Prices may vary from the time of post. Actual commissions paid will vary returns.
Static Return (Not Called):
(Call + Dividend)/Stock Price X (Days/Year)/Days to Expiration
(2.96 + (3*0.66))/62.80 X (365)/229
= 12.54% Static Return
(Call + Dividend + Strike Price - Stock Price)/Stock Price X (Days/Year)/Days to Expiration
(2.96 + (3*0.66) + 62.50 - 62.80)/62.80 X (365)/229
= 11.78% If-Called Return
Disclosure: Clients and/or principles of OakTree Investment Advisors may or will have an investment in the above positions, but only on the the same sides of the trades. The above numbers are analytic estimations based on information known at the time of this post. OakTree Investment Advisors does not guarentee the above, or any, result. All investment decisions should be made based upon individual's personal investment goals and risk tolerance.
Disclosure: I am long COP.
Additional disclosure: As active managers we are long COP and have sold covered calls on COP