Chevron Corp. (CVX) could raise its dividend per share next quarter based on its strong free cash flow. CVX looks undervalued now, as it is trading at a low point. If Chevron raises the dividend per share by 6.5% (less than last year), the forward yield is now very high at 4.85%.
That also means the stock is cheap. if Chevron raises the dividend next quarter CVX could be worth at least $164.00 (i.e., +15% more). Moreover, it makes sense to sell short out-of-the-money put options to gain extra income. This article will discuss these points.
CVX is at $143.57 in morning trading on Monday, Dec. 30. This is well off its recent high of $162.53 as of Nov. 26. Given its annual dividend per share (DPS) of $6.52, investors have a 4.54% dividend yield ($6.52/$143.57).
CVX stock - last 3 months - Barchart - As of Dec. 30, 2024
Free Cash Flow, Dividends, and a Potential Dividend Hike
In my last article on CVX stock last month, I discussed why value investors like CVX: “Chevron's 4.26% Dividend Yield, Well Covered by Cash Flow, Attracts Value Buyers.”
For example, last quarter Chevron generated very strong operating and free cash flow (FCF). FCF is what the company uses to pay its dividends.
Here are the essential Q3 highlights:
That is more than enough to pay its quarterly dividend which cost $2.9 billion. In other words, the dividend is almost covered twice by FCF:
$5.6b FCF / $2.9 dividend cost = 1.93x
That means there is room to increase the dividend. And Chevron seems to do this every 4 quarters. Chevron has paid $1.63 for the past 4 quarters. So, next month or early February 2025 it is due to announce a new dividend hike.
Previously it raised the quarterly dividend per share (DPS) from $1.51 (i.e., $6.04 annually) by 7.95%% to $1.63 ($6.52 annually). The prior year the DPS rose by 6.33%. So, on average it's risen by over 7%. (i.e., 7.14%).
Just to be conservative let's assume they hike it by 6.75% to $6.96 annually (i.e., $1.74 per quarter). The new dividend yield is therefore:
$6.96/$143.57 = 4.85%
Dividend Yield History
Morningstar reports that Chevron's average dividend yield for the past 5 years has been 4.23%.
Morningstar reports that Chevron's average dividend yield for the past 5 years has been 4.23%. So, here is what that means if Chevron hikes its dividend:
$6.96 DPS / 0.423 div yield = $164.53 target price
In other words, if the stock were to eventually have an average dividend yield, it would have to rise by almost 15% to $164.53 per share.
That is why value investors like the stock.
Moreover, Morningstar also reports that Chevron stock has had an average forward price/earnings (P/E) multiple of 13.79x over the last 5 years. Since analysts now project Dec. 2025 earnings per share (EPS) of $11.02, the stock looks undervalued:
$11.02 x 13.79x = $151.97 target price
So, based on these two target prices, CVX is cheap. The average target price is $158.25, or +10.2% higher.
Analysts tend to agree. For example, AnaChart, a new site that tracks analysts' price targets reports that the average of 23 analysts is $174.25.
So, based on analysts' target prices, historical dividend yield and P/E multiples, the average price target is $163.58:
The bottom line is that CVX stock looks very undervalued here. One way to play this stock is to sell short out-of-the-money (OTM) put options to gain extra income and set a lower buy-in target.
Selling OTM Puts
I discussed selling out-of-the-money (OTM) put options in my last article on Nov. 4. It turned out well and I think the play can be repeated.
At the time, CVX was at $153.07. I suggested shorting the $145.00 strike price put option expiring Nov. 29. The yield was almost 1.0% (i.e., $1.41/$145.00 = 0.97%).
As it turned out, CVX rose to $161.93 on Nov. 29. So, the short-put yield investor did not have to buy shares at $145.00, the puts expired worthless and the investor made the 1.0% yield.
Now CVX is lower again. The $140 strike price put contract expiring Jan. 31, 2025, has a $1.59 premium on the bid side. That gives investors show short these puts an immediate yield of 1.13% (i.e., $1.59/$140.00 = 0.011357).
This means that an investor who secures $14,000 in cash and/or trading power with their brokerage firm can enter an order to “Sell to Open” 1 put contract at $140.00 expiring Jan. 31.
The account will then immediately receive $159.00. That works out to 1.13% of the $14k invested.
Note that this contract is 2.38% below today's trading price - so, it's out-of-the-money (OTM) - i.e., it can't be exercised yet. However, even if CVX falls to $140.00 anytime over the next 32 days, and the account is assigned to buy 100 shares at $140.00, all is not lost.
For example, the breakeven price for this investor is $140-$1.59, or $138.41. That means the investor gains a very low buy-in price. At that price, assuming the DPS is hiked to $6.96, the investor's forward yield is 5.0% (i.e., $6.96/$138.41 = 0.0503).
That shows why this is a good way to set a lower buy-in target price. Value investors like this kind of play since they get paid either way - either using from the short-put yield play or from owning the stock at this lower buy-in price from the dividend yield.
