Barron\'s - April 6 2020

April 6, 2020 BARRON’S M5

STRIKING PRICE

Investors can create “conditional dividends” by

selling downside put options or upside call

options on stocks that they own.

How to Replace Lost

Dividends With Options

T

he coronavirus is attacking us and

menacing our financial security.

The U.S. death toll is expected to

surge in the next two weeks, but

you can and should fight back in any way

possible. That applies to your portfolio, too.

Dividends, which provide many people

with tax-advantaged quarterly income, are

under siege with companies conserving cash

as the global economy withers.

Boeing (ticker: BA), Darden Restau-

rants (DRI), Delta Air Lines (DAL), Ford

Motor (F), Freeport-McMoRan (FCX),

Macy’s (M), Marriott International

(MAR), and Nordstrom (JWN) have

suspended dividends. Apache (APA),

Occidental Petroleum (OXY), SL Green

Realty (SLG), and Old Dominion Freight

Line (ODFL) have reduced their dividends.

Others will follow.

Goldman Sachs told clients to expect a

wave of dividend suspensions, cuts, and

eliminations. David Kostin, its chief equity

strategist, recently told clients in a note that

payouts could decline by 38% over the next

nine months, which would make them 25%

below 2019’s level on a full-year basis.

Most people can blunt that impact by

rebuilding the income they need to cover

living expenses that came from dividends.

Investors can create “conditional dividends”

by selling downside put options or upside

call options on stocks that they own.

What’s the condition? A willingness to

buy a stock at lower prices or to sell a stock

at higher prices. If those terms are attractive,

you can often collect options premiums that

are greater than the dividend you are replac-

ing or supplementing. Be aware, though, that

conditional dividends are taxed at personal

income rates, unlike traditional dividends.

The conditional-dividend strategy is

simple. Review your portfolio. Confirm that

options are listed for your stocks. Confirm

that you are approved for options trading

with your brokerage. Next, focus on options

with strike prices that are about 5% to 10%

above or below the stock price. Pick options

that expire in one to three months. Options

premiums are often trading at historically

high prices since the virus humbled stock

prices.

Selling calls against stock you own is

called “overwriting.” Selling puts on stocks

you own is called “underwriting,” or cash-

secured put selling. Don’t get lost in options

lingo; focus on the strategy. You are selling

options against your stocks on a one-to-one

basis to generate income, which also hedges

your stock by the amount of the options

premium.

Consider Boeing, which until recently

paid a $2.05 quarterly dividend. With the

stock around $124, investors could sell the

May $145 call for about $11.50 or the May

$105 put for about $12. Selling a call obli-

gates you to sell stock at the $145 strike

price. Selling a put obligates you to buy

stock at $105.

At expiration, if the stock is below the call

strike price or above the put strike price,

investors keep the options premium. Selling

one Boeing call, for example, generates

$1,150 per 100 shares of stock, compared

with the $205 that had been generated each

quarter by the dividend. You don’t need to

set aside cash to sell calls against your stock;

your stock backsthe options. To sell cash-

secured puts, you need cash to cover the

potential stock purchase price.

The key risks to these strategies are that

the stock rises above the call strike price,

and you must sell stock or cover the call at a

higher price. If the stock falls far below the

put strike price, you must buy shares or

cover the put.

About 45% of a stock’s historical return is

fueled by dividends, and another 3% tends

to come from inflation. So, half of successful

investing basically comes from picking a

stock that pays a dividend and can grow

because the business is solid. By enhancing

or replacing dividends with the conditional-

dividend strategy, we can harness powerful

financial forces as we fight an invisible

enemy that means to do us grave harm.B

By Steven M. Sears

Equity Options

CBOE VOLATILITY INDEX

VIX Close VIX Futures

10

30

50

70

90

MJJASONDJFMA

Daily Values Source: CBOE

THE EQUITY-ONLY PUT-CALL RATIO

Put-Call Ratio S&P 500 Index

35

75

115

155

195

235

275

315

355

MJJASONDJFMA

Source: McMillan Analysis Corp.

SPX SKEW

Implied volatility %

7

8

9

10

11

12

13

14

15

16

17%

MJJASONDJFMA

Source: Credit Suisse Equity Derivatives Strategy

NDX SKEW

Implied volatility %

8

9

10

11

12

13

14

15

16%

MJJASONDJFMA

Source: Credit Suisse Equity Derivatives Strategy

Skew indicates whether the options market expects a stock-market advance or decline. It measures the difference

between the implied volatility of puts and calls that are 10% out of the money and expire in three months. Higher

readings are bearish.

Week'sMostActive

Company Symbol TotVol Calls Puts AvgTotVol IV%ile Ratio

Vivus VVUS 25824 12500 13324 344 100 75.1

Baker Hughes BKR 53274 51937 1337 2520 98 21.1

Mr. Cooper Group COOP^895026416309556100 16.1

Lloyds Banking Group LYG 37414 862 36552 3560 98 10.5

Tallgrass Energy TGE 4378 2078 2300 448 100 9.8

Abbott Labs ABT^152871134563183081808097 8.5

Hannon Armstrong Sustainable HASI^1158626611320151298 7.7

Owens & Minor OMI 40023 32642 7381 6868 98 5.8

Canadian Natural Resources CNQ 45477 12481 32996 7972 99 5.7

3D Systems DDD^20283192771006393698 5.2

Cenovus Energy CVE 28375 26869 1506 6184 97 4.6

Turtle Beach Corp. HEAR 11275 10580 695 2640 72 4.3

Crude Oil ETF OIL^27199189928207644097 4.2

Amarin AMRN 511868 406342 105526 123888 81 4.1

Athersys ATHX 25400 22332 3068 6488 96 3.9

Suncor Energy SU^34126275456581876897 3.9

BorgWarner BWA 9974 5021 4953 2680 98 3.7

Chewy Inc. CHWY 80332 56637 23695 21680 97 3.7

Hormel Foods HRL 11672 9788 1884 3268 97 3.6

Ultra Crude Oil ETF UCO^10320883901193073068497 3.4

Thistableofthemostactiveoptionsthisweek,ascomparedto average weeklyactivity–notjustrawvolume.Theideaisthatthe

unusuallyheavytradingintheseoptionsmightbeapredictorofcorporateactivity–takeovers,earningssurprises,earningspre-

announcements,biotechFDAhearingsordrugtrialresultannouncements,andsoforth.Dividendarbitragehasbeeneliminated.In

short,thislistattemptstoidentifywhereheavyspeculationistakingplace. Theseoptionsarelikelytobeexpensiveincomparisonto

theirusualpricinglevels.Furthermore,manyofthesesituationsmayberumor-driven.Mostrumorsdonotprovetobetrue,soone

shouldbeawareoftheseincreasedrisksiftradinginthesenames

RatioistheTotVoldividedbyAvgTotVol.IV%ileishowexpensivetheoptionsareonascalefrom0to100.

Source:McMillanAnalysis