The Walt Disney Company (DIS) stock has been trading flat, but it still looks undervalued using several measures, including dividend yield, and free cash flow. One way to play this is to short out-of-the-money (OTM) near-term puts and going long in-the-money (ITM) calls in long-dated expiry periods.
DIS stock closed at $111.16 on Friday, Jan. 3. It's been flat since Nov. 14 when it was at $109.12, after Disney released its fiscal Q4 and full-year earnings on Nov. 13.
That makes it attractive to investors who sell short OTM puts and buy long-dated ITM calls. This article will delve into this more carefully.
DIS Stock Looks Undervalued
Historical Dividend Yield. I wrote that DIS stock looked undervalued in a Dec. 6, 2024, Barchart article, “Disney's 33% Dividend Hike Implies DIS Stock Could Be 35% Undervalued.”
I showed that based on its historical dividend yield DIS is worth $138.89 per share, based on its historical dividend yield of 0.72%:
$1.00 dividend per share / 0.0072 = $138.89 target price
That is 25% higher than Friday's closing price of $111.89.
Moreover, given its highest trading price, the stock could be worth as much as $152 per share.
Free Cash Flow. In addition, using a free cash flow (FCF) analysis, Disney could be worth as much as $164 per share. Here's why.
Analysts forecast that sales this fiscal year (ending Sept. 2025) will reach $94.85 billion. And the following year they estimated $99.97 billion. So, for the next 12 months, the run rate revenue is about $97.4 billion.
Since last quarter Disney made a 17.85% FCF margin, let's assume it make at least 17% going forward:
$97.4 billion NTM sales x 0.17 = $16.6 billion in free cash flow (FCF)
Using a 6.0% FCF yield metric, this means that Disney will end up with a $276.7 billion market value:
$16.6b / 0.06 = $276.7 billion market cap
That is 37.5% higher than its present market cap:
$276.7b projected mkt cap /$201.3 billion mkt cap today = 1.375-1 = +37.5%
In other words, using an FCF metric, DIS stock is worth $153.85 per share:
$111.89 x 1.375 = $153.85 per share
What's the best way to play this?
Shorting OTM Puts
One way to play this is to repeatedly sell short out-of-the-money cash-secured put options in near-term expiry periods. That means selling puts in strike prices below the trading price.
For example, look at the Jan. 31, 2025, expiry period, which is less than a month away (27 days to expiry or DTE).
It shows that the $108.00 strike price, about 2.8% below today's price, has a put premium of $1.07 on the bid side. That means the short seller can make a 1.0% yield in less than one month: (i.e., $1.07/$108.00 = 0.99%)
This means that an investor who secures $10,800 in cash or buying power with their brokerage firm can do this trade. They enter an order to “Sell to Open” 1 put contract at $108.00. That cash acts as collateral in case DIS stock falls to $108 and the account is assigned to buy 100 shares at $108.00.
The account will then immediately receive $107.00. Hence the yield is almost 1.0% (i.e., $107/$10,800 = 0.99%). No matter what happens, the account keeps that income.
Moreover, even if DIS falls to $108.00, the investor's breakeven is $108-$1.07, or $106.93. That is 4.4% lower than today's price.
However, if the stock rises from here the investor who shorts these puts does not gain any upside. They only get to keep the income already generated. As a result, it makes sense to buy in-the-money calls in long-dated expiry periods.
This is a leveraged way to play the upside. Moreover, the short-put income can help pay for these calls.
Long-Dated In-the-Money Calls
For example, look at the Jan. 16, 2026, expiration call option chain, over 1 year from now. It shows that the $100.00 strike price calls, which are 11%+ below today's price of $111.89 trade for just $20.65 in the midprice.
That means the investor can gain exposure to 100 shares by paying just $2,065, instead of $11,189 buying the same number of shares (i.e., 100 x $111.89).
Note that there is already some intrinsic value in the price paid. For example, if DIS stays flat over the next year, these calls would still be worth $111.89-$100.00, or $11.89. That represents over half of the price paid for the calls:
$11.89 / $20.65 = 0.576 = 57.6%
In other words, the investor is paying $8.76 more than the calls are worth today. That is known as extrinsic value.
But the upside is highly leveraged. For example, if Disney rises to $139 by the end of 2025, these calls will be worth $39.00 (i.e., $139-$100). That represents an 88.9% return for these call investors (i.e., $39/$20.65 = 1.8886 -1 = +88.86%, whereas the stock rose just 24.2%.
Moreover, the investor can use the income generated from shorting puts to help pay for this long-dated put. For example, if the investor can repeatedly earn $1.07 for the next 12 months shorting OTM puts, the income gained would be $12.84.
That would more than cover the $8.76 in extrinsic value (extra amount) paid for these calls. In other words, shorting OTM puts helps protect the downside of buying long-dated calls.
The bottom line is that Disney stock looks very undervalued here. One way to play this is to short OMT puts in nearby expiry periods along with going long ITM calls in long-dated periods.
