Exxon Mobil (XOM) stock is looking very attractive to value investors. For one, it will likely raise its dividend in late October. Second, its P/E multiple is very low vs. its history. As a result, shorting out-of-the-money (OTM) puts is profitable for options traders.
This strategy allows traders to gain additional income on top of the 3.34% dividend yield that XOM stock has today. By selling short these OTM puts those who already own XOM stock can enhance their dividend yield with additional short-put income.
Dividend Increase Likely
That is because at $109.118 per share as of early trading on Aug. 29, Exxon's 91-cent quarterly dividend ($3.64 annually) works out to 3.33% on an annual basis.
However, Exxon has now paid out this 91-cent quarterly dividend for four quarters. That means it will likely raise it again when the company usually announces its upcoming Q4 dividend at the end of October.
This is because, as pointed out by Seeking Alpha, Exxon has worked hard to raise its dividend every year for the past 24 years. This was especially difficult to do during the pandemic years. Many other oil and gas stocks either eliminated or didn't raise dividends.
For example, given the 3.4% hike in its quarterly dividend last year from 88 cents to 91 cents, it's possible that the new quarterly dividend will rise to 94 cents. That puts its annual rate at least at $3.76 per share.
As a result, at today's price of $109.18, XOM stock has a forward expected yield of 3.44%.
Reasonable Valuation
Exxon reported excellent earnings for Q2 on July 28. Granted, its revenue, earnings and free cash flow (FCF) were all down compared to a year ago as well as the prior quarter.
However, the company is still very solidly profitable and more than able to afford its dividend and buyback programs.
For example, Exxon reported that its FCF before working capital changes (which included a massive one-off $3.6 billion tax payment), was $8.6 billion. That more than covers the quarterly dividend payment cost of $3.7 billion.
The adjusted FCF figure also covers the $4.34 billion quarterly cost of its quarterly buyback program.
In other words, Exxon stock is very able to afford its dividends and buybacks.
Moreover, XOM stock is trading well below its historical average price-to-earnings (P/E) valuation metrics. For example, Morningstar reports that over the past 5 years, XOM stock has had a 16.7x P/E multiple.
This is well over today's P/E. For example, Seeking Alpha reports that the average earnings per share (EPS) of 23 analysts is $9.12. At $109.18 today that puts XOM stock on a forward P/E of just 12.0x.
That makes holding XOM stock for the long term very attractive to value investors. It also provides an opportunity to earn additional income by shorting out-of-the-money (OTM) puts.
Shorting OTM Puts for Additional Income
For example, the Sept. 22 expiration put option chain shows that the $104.00 strike price puts trade for 78 cents per put option. That means that an investor who shorts these OTM puts, which are over 4.7% below today's price, can make good additional income.
Here is how that works out. First, the trader secures $10,400 in cash and/or margin with their brokerage firm. Then, they can enter an order to “Sell to Open” one put contract at $104.00 for expiration on Sept. 22.
The account will then immediately receive $78.00 as a result of the sold short put option contract trade. That works out to 0.75% of the $10,400 that was invested in the trade.
Moreover, if this can be repeated every month for a year the annualized return will be 9.0%. That shows why this is a good way to enhance the 3.44% expected dividend yield by holding 100 shares or more in XOM stock.
Moreover, a more enterprising trader can sell short the $105 strike price puts. This strike price has more risk since it is just 3.81% below today's price. However, the premium received will be $97 per put contract.
As the trader would have to secure $10,500 with their brokerage firm (only $100 more than the $104 strike price trade), the yield is 0.923%, or 11% on an annualized basis. That is 2 percentage points higher than the 9.0% annualized yield with the $104 strike price short-put trade.
The bottom line is that by selling OTM puts, XOM stock owners can enhance their dividend yield with this cheap stock.
On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
