Selling cash secured puts on stocks an investor is happy to take ownership of is a great way to generate some extra income. A cash-secured put involves writing an at-the-money or out-of-the-money put option and simultaneously setting aside enough cash to buy the stock. The goal is to either have the put expire worthless and keep the premium, or to be assigned and acquire the stock below the current price. It’s important that anyone selling puts understands that they may be assigned 100 shares at the strike price.
Why Trade Cash Secured Puts?
Selling cash secured puts is a bullish trade but slightly less bullish than outright stock ownership. If the investor was strongly bullish, they would prefer to look at strategies like a long call, a bull call spread, or a poor man’s covered call. Investors would sell a put on a stock they think will stay flat, rise slightly, or at worst not drop too much.
Cash secured put sellers set aside enough capital to purchase the shares and are happy to take ownership of the stock if called upon to do so by the put buyer. Naked put sellers, on the other hand, have no intention of taking ownership of the stock and are purely looking to generate premium from option selling strategies.
The more bullish the cash secure put investor is, the closer they should sell the put to the current stock price. This will generate the most amount of premium and also increase the chances of the put being assigned. Selling deep-out-of-the-money puts generates the smallest amount of premium and is less likely to see the put assigned.
XOM Cash Secure Put Example
Yesterday, with XOM trading at $104.84, the September 15 put option with a strike price of $100 was trading around $2.55. Traders selling this put would receive $255 in option premium. In return for receiving this premium, they have an obligation to buy 100 shares of XOM for $100. By September 15, if XOM is trading for $90, or $80, or even $10, the put seller still has to buy 100 shares at $100.
But, if XOM is trading above $1000, the put option expires worthless, and the trader keeps the $255 option premium. The net capital at risk is equal to the strike price of $200, less the 2.55 in option premium. So, if assigned, the net cost basis will be $97.45 That’s not bad for a stock currently trading at $104.84. That’s a 7.05% discount from the price it was trading at yesterday.
If XOM stays above $100, the return on capital is:
$255 / $9,745 = 2.62% in 66 days, which works out to 14.26% annualized.
Either the put seller achieves an 14.26% annualized return, or gets to buy a high yielding, blue chip stock for a 7% discount. You can find other ideas like this using the Naked Put Screener. Below you can see some parameters that you might consider for running this screener. Feel free to tweak them as you see fit.
Company Details
The Barchart Technical Opinion rating is a 88% Sell with a Strengthening short term outlook on maintaining the current direction.
Of 18 analysts covering XOM, 7 have a strong buy rating and 11 have a Hold rating.
ExxonMobil's bellwether status in the energy space, optimal integrated capital structure that has historically produced industry-leading returns and management's track record of capex discipline across the commodity price cycle make it a relatively lower-risk energy sector play. The company owns some of the most prolific upstream assets globally. Other aspects of the company's story include the largest global refining operations, substantial chemicals assets and a dividend history and credit profile that are second to none in the space. ExxonMobil's capital spending discipline is quite aggressive. The company has a plan in place to allocate significant proportion of its budget to key oil and gas projects. The company's business perspective looks different from most peers since big oil rivals have pledged to lower carbon emissions to tackle climate change. ExxonMobil divides its operations into three main segments: Upstream, Downstream and Chemical.
Summary
While this type of strategy requires a lot of capital, it is a great way to generate an income from stocks you want to own. If you end up being assigned, you can sit back and collect the nice 3.53% dividend on offer from XOM. You can do this on other stocks as well, but remember to start small until you understand a bit more about how this all works.
Risk averse traders might consider buying an out-of-the-money put to protect the downside.
Please remember that options are risky, and investors can lose 100% of their investment. This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
On the date of publication, Gavin McMaster 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.
