Walmart (WMT) reported surprisingly good results on May 18 for its fiscal Q1 ending April 30. This included strong year-over-year (YoY) revenue and operating income growth of 7.6% and 17.3%, respectively.
As a result, WMT stock could move substantially higher over the near term. That also has positive implications for investors who short out-of-the-money puts and calls in WMT stock.
In fact, WMT stock is already moving higher. It closed at $149.91 on May 19, up $8.12 YTD from $141.79 where it closed on Dec. 30, at the end of 2022. That represents a gain of 5.73% so far this year.
Comps and Cash Flow Rise
The company saw strong like-for-like (i.e., comp) sales for the quarter, including +7.4% for Walmart US sales during the quarter, vs. last year. In addition, its eCommerce business was up 27% YoY, driven by pickup and delivery.
These results imply that a global recession is so far nowhere in sight, despite market fears. Moreover, its operating cash flow rose to $4.6 billion during the quarter, an increase of $8.4 billion. Indeed, its free cash flow (which is operating cash flow less capex spending) rose to $0.2 billion, up $7.5 billion.
In fact, in the last 12 months to April 30, Walmart generated $37.23 billion in operating cash flow, according to Seeking Alpha. After spending $17.75 billion on store improvements and capex, it produced a massive $19.5 billion in free cash flow (FCF).
Buybacks and Dividend Growth
As a result, over the last year, Walmart used this FCF to spend $8.2 billion on stock buybacks and $6.1 billion on dividends. It also cut its debt using the remaining FCF.
This shows that Walmart stock will benefit from its huge free cash flow over the next year.
For example, Walmart has raised its dividend every year for the past 49 years. Moreover, at $2.28 per share, its dividend produces a dividend yield of 1.52%. In addition, its buybacks could be $8.2 billion this year, or 2.02% of its $404 billion market cap.
As a result, investors in WMT stock have reason to be bullish going forward. So, even though WMT stock may tread water for a while, investors can rely on the improvements in its fundamentals.
Shorting OTM Calls and Puts
In fact, one way to play this is to short out-of-the-money (OTM) covered calls, as well as cash-secured OTM puts. For example, for the option expiration period ending June 16, 27 days from now, investors can sell short the $160 strike price call options and immediately receive 17 cents per call option.
That represents a covered call yield of 0.11% (i.e., $0.17/$149.91). If it can be repeated every month for a year it represents an annualized return of 1.32%. This strike price is 6.73% over today's price, so if WMT stock rises to that price on or before June 16, the investor will also make a 6.73% capital gain.Of course, if the investor is willing to take on more risk, they could short the $155 strike price calls and pick up a much higher covered call yield. This strike price trades for 71 cents and produces a 0.47% immediate yield on the spot price. That works out to an annualized return of 5.64%.
However, a much better play is short cash-secured OTM puts. For example, for the same expiration period, the $140 strike price puts, which are 6.61% below the spot price, trade for 44 cents.
That represents 0.314% (i.e., $0.44/$140), or an annualized return of 3.77% if the trade is repeated each month for a year. So, for example, once the investor secures $14,000 with their brokerage firm, they can enter in an order to “Sell to Open” 1 put contract at $140. The account will then immediately receive $44, or a yield of 0.314%.
This shows that investors can make money shorting out-of-the-money puts and calls in WMT stock while they wait for the stock to move higher based on its fundamentals.
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.
