Occidental Petroleum (OXY) generated $1 billion in free cash flow (FCF) last quarter. It could have exceeded that in Q3 with higher oil prices. That makes it attractive to value buyers and short sellers of its out-of-the-money (OTM) put options. That last strategy is a way to make extra income.
I discussed Oxy's FCF in my last Barchart article on Aug. 28 on Occidental, “Buffett's Berkshire Hathaway Still Loves Occidental Petroleum with Over a 25% Stake.” This FCF is funding the company's aggressive $3 billion stock buyback program.
Today, Sept. 19, in morning trading OXY stock is at $66.22 per share, down slightly. However, for the past month, the stock has been fairly stable.
FCF Could Rebound
However, it's important to look at the recent history of the company's FCF progress. You can see this in the table below.
It shows that in the past 2 quarters, Occidental's free cash flow has been lower than what it generated last year. It shows that compared to $1.005 billion in FCF before working capital in Q2, it made $4.176 billion last year.
The same is true with the Q1 results. However, note that Occidental has been consistently raising its capex spending. Note that in Q2 2023 it spent $1.646 billion in capex, compared to just $972 million in Q2 2022.
That accounts for a portion of the difference. Looking forward, it appears that with the higher oil prices this quarter, it's possible that Occidental could have significantly higher adjusted FCF, especially if its capex spending stays level.
That gives a good deal of hope to value investors in the stock.
Inexpensive ValuationAs it stands at $66.22, OXY stock is trading for just 17.75x earnings. This is based on analysts' average forecast of $3.73 in earnings per share (EPS) for 2023.
However, on a forward basis, those same analysts predict EPS could rise to $5.09 per share. That puts OXY stock on a forward P/E of just 13x.
Morningstar reports that its average forward P/E for the past 5 years has been 17.3x. So, in effect, the stock is looking inexpensive here compared to its own history.
Moreover, OXY pays a 1.09% dividend yield.
One way to play this generate extra income is to sell short out-of-the-money (OTM) put options. This especially benefits existing shareholders who don't want to have any risk of having to sell their shares through short options plays.
Selling Short OTM Puts
For example, the Sept. 29 put option chain, which expires in 10 days, shows that the $64.00 strike price puts trade for 31 cents. That means that short sellers of these puts can generate an extra 0.48% in income with less than 2 weeks until expiration.
However, anyone doing this trade should be aware that the strike price is 3% below today's price. It means that if OXY falls to $64.00 the investor will have to buy more OXY shares at $64.00.
To do this trade, brokerage firms require that investors secure $6,400 in cash and/or margin. That allows for 100 shares to be immediately bought if OXY stock falls to this level.
Nevertheless, the investor still gets to keep the $31.00 in income that is made upon doing the short sale.
This means that if the investor could repeat this OTM short-sale trade every 2 weeks for a year, the total income would be $806.00 or 12.6% of the $6,400 invested. Obviously, there is no guarantee that the options will always be at the premium level. But it illustrates the attractiveness of shorting puts today.
The bottom line is that OXY stock looks inexpensive here and it makes sense to sell short OTM puts today.
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.
