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Franklin Resources (BEN), the money management company, has a 6.38% annual dividend yield and looks like a bargain. Moreover, its average yield over the last 5 years is much lower at 4.40%. That implies BEN stock could be worth much more.
BEN was at $20.06 in midday trading on Monday, Jan. 27. That is down 11.7% from its recent high of $22.72 on Nov. 25. It's also up from a recent trough at $19.40 on Jan. 16.
However, BEN stock could be worth much more based on its historical averages. This article will show why.
Average Yield Valuation
Based on its average yield BEN stock could be worth $29.09, or +45% more. Here's why.
Right now Franklin Resources pays a 32 cents quarterly dividend. That equals $1.28 annually, and already one of 4 quarterly dividend per share (DPS) payments has been made at that rate.
That means that the dividend yield today is 6.38%:
$1.28 DPS / $20.06 = 0.0638 = 6.38% yield
In addition, Seeking Alpha reports that the average yield over the past 5 years has been 4.36%, much lower than today's 6.38% dividend yield. In addition, Morningstar reports the average 5-year yield has been even lower at 4.23%. They also show that the trailing 12-month (TTM) yield has been 4.19%.
Yahoo! Finance reports that the trailing 5-year yield has been 4.61%. So, the average from these sites is 4.40%.
As a result, we can estimate what the stock would be worth if it rose to the point where its dividend per share (DPS) is valued at a yield equal to its historical average:
$1.28 DPS / 0.0440 = $29.09
$29.09 / $20.06 today = 1.45 = +45% higher
Keep in mind an average yield means that the stock price could trade higher than this point.
Average Forward P/E
BEN stock is also cheap based on its historical forward price-to-earnings (P/E) multiple. For example, Yahoo! Finance reports that its present forward P/E multiple is just 8.87x.
However, Morningstar reports that the 5-year average forward P/E ratio has been 13.74x. In addition, Seeking Alpha's forward P/E average for the past 5 years is 11.42x.
That means the average of these two surveys shows an average forward P/E multiple of 12.58x. This is 41.8% higher than its present forward P/E:
12.58x / 8.87x = 1.418 = +48.8 higher than today
As a result, this implies that BEN stock is worth 48.8% more, or $28.44:
1.418 x $20.06 = $28.44
Price Targets
Therefore, based on its average yield ($29.09) and its average forward P/E multiple ($28.44), Franklin Resources stock is worth $28.77 per share. That is 43.% higher than today's price.
However, analysts don't seem to see much upside. For example, Yahoo! Finance shows that the average price target from 14 analysts is $19.80. Barchart's mean survey price target is $19.66, with a high of $22.00 per share.
In addition, AnaChart.com, which tracks sell-side analysts' price targets, says the average of 12 analysts is $20.01, roughly flat with today's price.
As a result, it makes sense to be somewhat cautious playing this potential upside. One way to do this is to sell out-of-the-money (OTM) put options in nearby expiry periods. That way you can set a lower buy-in price target and get paid while waiting for the stock to fall, if at all it does.
Shorting ATM and OTM Puts
For example, look at the Feb. 21 expiration period, 25 days from now. That shows that the $20.00 put option strike price, which is at-the-money (ATM) or just below today's trading price, has a 55 cents premium on the bid side.
That means that the cash-secured short-seller of these put options gains an immediate yield of 2.75% (i.e. $0.55/$20.00).
This $20.00 strike price is less than 1% below today's trading price. As a result, the delta ratio is high at -46.7%. That means there is a very good chance the stock could fall to $20.00 sometime in the next month.
As a result, the investor who shorts these puts is likely to end up having their collateral (i.e., $2,000 for every put contract shorted) assigned to buy shares at $20.00.
But so what? After all, the effective breakeven is lower at $20.00 - $0.55, or $19.45. That is over 3% lower than today's price and effectively is a good way to set a lower buy-in price target.
Moreover, the investor immediately gains a higher yield. For example, here is how that works out:
$1.22 DPS / $19.45 breakeven price = 0.06272 = 6.272% dividend yield
If that happens, the investor may or may not have an unrealized capital loss. But at least they set a lower buy-in target price than today. And buy shorting BEN stock with an at-the-money (ATM) strike price, they gained an immediate 2.75% income yield. If that can be repeated each month for six months, the expected return (ER) is 16.5%, even if the stock never falls to the strike price.
For more risk-averse investors, look at the March 21 expiry period. It shows that the $17.50 strike price, which is over 12% below today's price, has a midprice premium of 15 cents.
That works out to a cash-secured short-put yield of almost 1.0% over 2 months (i.e., $0.15 / $17.50 = 0.00857 = 0.857% yield).
This might work better for existing BEN shareholders as the delta ratio is only -11.7%. That means there is less than a 12% chance of BEN stock falling to this point in the next 53 days to expiry.
The bottom line is that shorting at the money (ATM) or out-of-the-money (OTM) put options in BEN stock provides a good way to play this undervalued stock.
