Print Money By Selling Naked Altria LEAP Put Options

Mar. 10, 2019 11:48 AM ETAltria Group, Inc. (MO)77 Comments
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Healthy Wealth Coach


  • Altria has seen a series of large price declines in the past year.
  • This outsized volatility has created large premiums in the options market.
  • Altria's 6% dividend, which is sure to be increased going forward, puts a huge floor under the shares.
  • For option-savvy investors who want to accumulate Altria, I recommend a low-risk/high-return option trade.

ChartData by YCharts

Altria (NYSE:MO) is a stock that I have personally owned since the 1990s. It is a company that has some of the most loyal shareholders in the world, right up there with Berkshire Hathaway (BRK.A). Most long-term Altria shareholders are well aware of the "secret sauce" that keeps the profit machine churning out higher and higher profits every year, and they know that these higher and higher profits always result in higher and higher dividends. That "secret sauce" is Altria's incredible pricing power and their domination of the nicotine delivery industry.

Altria has been able to increase pricing on combustible cigarettes year after year for generations. Through pricing, they have generated enough incremental cash flow year after year to allow them to increase their dividend 53 times in the last 49 years and to repurchase copious amounts of shares, all while investing in R&D and making any necessary acquisitions to maintain their #1 position in the industry.

Through the acquisition of UST, Altria became the leader in smokeless tobacco, and through equity ownerships in Anheuser-Busch Inbev (BUD), Cronos (CRON) and Juul, Altria has large stakes in the world's leading alcohol, cannabis, and e-cigarette companies. Altria was even instrumental in negotiating the Master Settlement Agreement, which effectively solidified their #1 market share position (as advertising is now so restricted), making Altria the permanent leader in the combustible tobacco business.

These are all important parts as to why Altria has such loyal shareholders, but the #1 reason shareholders love this company is because of its dividend. The dividend has been increased at least one time per year, every year, going back to the 1960s. At any point in history, a passive investor could have bought this stock for the dividend alone and never cared one bit what happened to the share price. This is due to a very simple valuation strategy that is key to my option selling thesis on Altria.

The underlying theme here is called "Dividend Theory." Quite simply, dividend theory states that if you have a stock that pays a generous dividend and increases that dividend every year like clockwork, the expected total return over time will equal the sum of the current dividend yield plus the dividend growth rate, expressed in percentages. For example, if Altria today yields 6%, and they increase their dividend by 8% annually for the next ten years, then one should expect Altria's share price to rise by roughly 8% annually each year for the next ten years, for a total return of about 14% annually. The reason for this is simple. If Altria increases its dividend 8% annually and the stock price does not rise in proportion, then the current 6% yield grows ever larger. If this happens for too long, the dividend will eventually grow to a level that income investors simply cannot refuse any longer, which will cause them to bid up the share price to a point where the dividend yield makes sense again.

The most important things here are that Altria continues raising its dividend and that you pay a fair price to begin with. Fair would be anything in the range of 3.60%-6.00%, which is essentially the historical yield range for Altria as seen in the chart below.

ChartData by YCharts

For those who are buy and hold investors, the trade is simple. Just buy Altria today with a 6% yield, knowing that as the years go by and the dividend gets increased, you should realize a total return of around 14% per year, which will come from dividends and share price appreciation. For those who are savvy with options writing/selling, I offer you a trade that I am actively putting on in my account.

The Trade

Sell the Jan 2021 Altria $52.50 put, which can be sold for $8 as of the time of this writing. This obligates the seller of this option to purchase 100 shares of Altria for $52.50 in January 2021. Simple enough. The beauty of this trade is that you collect $8/share of cash today for agreeing today to buy Altria at $52.50 in 2021, giving you an effective purchase price of $44.50. Sounds like a victory already, right?

Naked or Cash Secured?

There are two ways to sell puts, naked or cash secured. Cash secured involves having the $5,250 in your account necessary to cover the future purchase if it happens. Because of this, the maximum possible gain on this trade is $800 (the option premium), the maximum possible return on this cash secured trade is a 15.2% return over the next 22 months. This is the safe and low risk way to sell puts. For this particular situation, however, I fully support naked put selling, and here's why.

There are three possible outcomes, and all of them are good.

  • Possibility #1: Altria trades above $52.50 in January 2021 and the option expires worthless. The $800 you collected up front for selling the option is yours to keep. If you sold the option naked, you have essentially printed money.
  • Possibility #2: Altria trades below $52.50 in January 2021 and you are assigned 100 shares with an net cost basis of $44.50.
  • Possibility #3: Altria trades somewhere between $44.50 and $52.50 as expiration nears and you buy back the option for a profit.

Remember, these have nearly two years until expiration. Early assignment risk is almost zero because the buyer of the option will want to collect the 6% dividend themselves all the way up until expiration. Most likely, the only chance you will be assigned early is if Altria trades below $52.50 sometime after the stock goes ex-dividend in December of 2020. But remember, if that happens, you get to buy Altria with a cost basis of $44.50/share, even if it is trading higher than that.

Dividend theory gives you the confidence that this trade will win

The chance of profiting on this trade is extraordinarily high, and here's why. Going back to the original theory from the first part of this article, if Altria increases its dividend two times between now and January 2021, both times by 8% (historical norm), the dividend will be $3.74/share in 2021. That $3.74 dividend equates to a yield of 7.1% at $52.50/share and 8.4% at $44.50/share. Who wouldn't want to own a stock that yields 7.1% or 8.4%, especially when that dividend is almost certain to continue growing in the future? The reality is, this option is likely to expire worthless because rational investors will have bid shares of Altria much higher than $52.50 by 2021 simply so they can capture the dividend.

Print money by selling naked Altria LEAP put options

At the end of the day, this trade makes so much sense because of the low risk nature of it. Option selling can be dangerous if you use it to gamble or you don't know what you are doing, but if you enter this trade knowing full well what the possible outcomes are, and you are happy with all of them, this option sale creates a safer way to invest. I view this trade as the closest thing to a free lunch I have seen on Wall Street in a long time. The market has priced Altria options so high because Altria is coming off of a terrible and volatile 2018, but as investors, we have to look forward. Altria's future will be one of continued dividend increases just like its past, and selling puts offers a way to profit with very little risk of loss.

This article was written by

Healthy Wealth Coach profile picture
I am a value oriented, contrarian investor with almost 3 decades of experience in the stock market and fifteen years of experience investing in real estate. In the stock market I have found that the best investing opportunities occur when quality companies are priced for incredible stress or even complete failure by the ever manic-depressive Mr. Market. I find myself the most interested in companies when the market is overwhelmingly pessimistic towards them.

Disclosure: I am/we are long MO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am naked short January 2021 Altria $50, $52.50, and $55 puts.

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