ConocoPhillips: An Opportunistic Call

Mar. 12, 2019 5:27 AM ETConocoPhillips (COP)4 Comments
MoneyMadam profile picture


  • In this post, I explore a call opportunity on ConocoPhillips.
  • Quality Fundamentals.
  • Low dividend yield requiring income investors to sell calls to boost income.
  • Dividend growth adequate to beat inflation.
  • Call opportunities that provide good capital gain potential and high premiums.

Energy is always an interesting area for income investors. Opportunities for good yields are abundant. The other side of that coin is the volatility of these stocks. They are so prone to headline news on both the up and downside. In this post, I explore a call opportunity on ConocoPhillips (NYSE:COP).

  • Quality Fundamentals
  • Low dividend yield requiring income investors to sell calls to boost income
  • Dividend growth adequate to beat inflation
  • Call opportunities that provide good capital gain potential and high premiums

If I am going to risk my money in the stock market, I have to get income. I prefer 4% annual yields. These are stocks that tend to be mature. You are pretty sure they are safe but innovation has captured more than one "orphan and widow" stock. I count on these 4% yielders but I do not want to overload my portfolio with them. I am looking beyond that universe of stocks by looking for a stock with solid fundamentals and with call opportunities.

Quality Fundamentals

All income investors are by nature conservative investors. Our number one goal is to create enough income from our portfolio to live nicely and to have a portfolio so fundamentally solid that we can sleep at night. You will not be right all the time but most of the time: 90/10.

My four basic fundamental criteria are a dividend yield, earnings per share that are greater than the dividend, dividend growth, and debt to equity ratio 1 or less or within industry standard.

ConocoPhillips passes on all metrics. Take a look at the chart below.

COP E.P.S. Dividend Yield 3-Yr Div Growth D/E Ratio
$65.43 $5.32 $1.22 1.86% 7.33% 0.47

Earnings are greater than dividend and D/E ratio is quite good. I usually go deeper into the income and balance sheet. I might discover negative revenue growth or an oddity in the free cash flow. However, the criteria noted above are a good place to start.

Low Yield:

The problem with this stock is the low yield, under 2%. Who can live on that. However, COP has some good growth potential and that suggests the yield is not the only way to make money on COP.

Below is a chart of the revenue trend for COP. Revenue drives cash flow and earnings. I like to see this type of revenue growth if I am starting or adding to a position.

Dividend Growth:

Another piece of the puzzle for income investors is dealing with rising costs of living. You cannot use the official measures of inflation. If you did, you would be happy to keep your income flat.

However, go back 20 years and look at your basic bills and you will see they have doubled. Therefore, your income has to keep up. Dividend growth can help with this conundrum called "fixed income."

You cannot live the same lifestyle in 20 years on a fixed income. You have to invest for income growth and dividends are one of the best places to find income growth particularly when you no longer work.

When you go to your favorite site to review COP's dividend history, you will notice that prior to 2016, the quarterly dividend was $.75. This dividend reduction is worrisome. These factors will play into how I determine the best call for me.

Call Opportunity:

Picking the strike price, picking the expiration date and accepting the premium bid are all factors call sellers must consider. As I always say, if you don't want to lose your precious shares to a call buyer, don't sell calls. COP is a stock I like owning because of the call options I have been able to sell. But, if I lose it, that is okay by me. It is not a core holding. It is an opportunistic holding.

ConocoPhillips is in the business of finding and producing oil and gas. I am not an oil and gas analyst and surely not an expert. I don't write about the catalysts that cause stocks to move. For those interested in exploring those factors, you might consider reviewing what is occurring at the oil and gas confab in Houston this week. Here is a link to COP's role: CERAWeek Conference Houston, TX 2019.

With that in mind, here is the call I picked today. I explain my call below.

When I pick a strike price, I like to get more than I paid for the stock. How much more is the question. When I use calls on dividend stocks, I like to receive between 8 and 10% gain on my basis. When my basis is much less than the current trading price, I still go for the 8-10% range. Today COP is trading about $65.50 so I am looking for a strike between $70 and $72.50.

Another data point to help is the 52-week high. COP's 52-week high is $80.24. I don't see COP on such a roll that some catalyst will push it up beyond the 52-week high. If I am wrong, they will take my COP and that is a good trade provided I get my 8-10% gain and I get to pocket the premium plus the dividend.

The expiration date is important as well when selling calls on dividend stocks. I try to time the call expiration so I get the next quarterly dividend. But I don't want to go out too far because of the twin risks of either lost opportunity if the stock soars past my strike price and locked in losses if I am stuck with a stock that sinks and I can't get out of the call option contract.

The next expected ex-dividend date for COP is May 8, 2019. I looked at the May 17, 2019 expiration dates and picked the $70 call that expires in May.

An acceptable premium to me is 1% of the strike price. With a low yielder like COP, you need to sell three 1% calls and pocket the dividend to make that stock deliver a sum total of greater than 4% per year. You can see with this call, income is everything to me. I am going for a premium that yields 2.09%. Already, if I hold the stock a whole year, I will have generated more than 3% already. Perhaps I can sell one or two more calls and will make this a greater than 4% yielding stock.

If you are willing to go out further, you might consider this June Expiration with a $75 strike price. This call is for investors who don't need as much income but think COP will go above $70 and you want to capture that gain.

COP to me is a solid stock with a recent record for dividend growth and for call opportunities that boost the current yield. For investors who like the space but do not like the low yield or the risk that COP could reduce the dividend during bad times, you might consider another stock for your portfolio. For me, the income potential is worth the risk at this time.

Good Income Investing.


Disclosure: Long COP with calls

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

This article was written by

MoneyMadam profile picture
I used to be in "the business" and I used to write a blog on Income Investing.  Now I spend about 2 hours a day working my portfolio to squeeze out as much income as possible.  Much of my income comes from covered call premiums. I use this blog to post some of my covered call ideas.  MoneyMadam

Recommended For You

Comments (4)

To ensure this doesn’t happen in the future, please enable Javascript and cookies in your browser.
Is this happening to you frequently? Please report it on our feedback forum.
If you have an ad-blocker enabled you may be blocked from proceeding. Please disable your ad-blocker and refresh.