Dow Inc. is one of the top yielding stocks in the Dow Jones Industrial Average, and the stock is getting cheaper by the day.
When a stock drops, the dividend yield rises (assuming the payout remains the same). With growth stocks struggling and the market uptrend under pressure, some investors may turn to yield-based strategies.
Investors searching for yield can further enhance the yield on Dow stock by using a covered call strategy.
When selling a covered call, the investor receives a premium and must sell the shares at the strike price if called upon to do so.
One call option contract represents 100 shares, so investors can sell multiple call options if they have a particularly large stock holding.
Over time, covered calls can increase returns while also decreasing the volatility of a portfolio.
Trade Raises Annualized Yield By 36%
On Dow stock, an August-expiry, 52.50-strike call option was trading yesterday around $2.10, generating $210 in premium per contract and increasing the annualized yield by 36%.
DOW currently pays around $2.80 per share in annual dividends, so generating another $2.10 from covered call writing in only six weeks is quite attractive.
The $2.10 in premium received also gives a small buffer on the downside of 4.07%. That means Dow stock could trade 4.07% lower between now and Aug. 19, and the covered call trade would still break even.
The total capital at risk in the trade would be $4,947, and if DOW stock went to zero, that's how much the trade would lose.
Covered calls are a fantastic way to generate extra income from a stock holding while also providing some downside protection.
Pros And Cons Of Dow Stock
Investors would need to weigh the pros and cons of the stock before initiating a bullish trade like a covered call.
The downside of the trade is the dreadful looking chart, with Dow stock below the 21-, 50-, and 200-day moving averages.
The stock is poorly rated too, with a Composite Rating of 63, an EPS Rating of 94, and a Relative Strength Rating of 53. So it might be more prudent to wait for a better entry point.
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.
Gavin McMaster has a Masters in Applied Finance and Investment. He specializes in income trading using options, is very conservative in his style and believes patience in waiting for the best setup is the key to successful trading. Follow him on Twitter at @OptiontradinIQ
