By Robert Hauver
Although Industrials are down approx. -4% year-to-date, this sector may hold some of the best stocks to buy moving forward. Standard & Poor’s ranks Industrials as #2 in projected EPS growth for 2012, right behind Tech, which gives it the 3rd lowest PEG ratio for 2012:
(Data source: Standard & Poors)
Thus far, 86% of S&P 500 Industrials have beaten or met their Q3 2011 Earnings Estimates, 2nd only to Tech.
(Data source: Standard & Poors)
Although this sector looks attractive, finding undervalued high dividend stocks here with strong metrics is still a challenge. A different approach would be to look for a lower-yelding dividend paying stocks, that have stronger growth and financials, and then utilize options to ramp up the dividend yields on these dividend stocks. Both Caterpillar and Cummins have less-than-avg. dividend yields, but you can greatly improve upon their dividends by selling options.
Covered Calls: Take a look at the big difference between these high option yields and the dividend yields during these 6-7 month trades.
CAT’s call options pay over 9 times their dividends, while CMI’s pay over 15 times.
(The call and put options listed in this article for CAT expire in May, and those for CMI expire in June.)
(You can find more details on this and more than 30 other high yield covered call trades in our Covered Calls Table.)
Cash Secured Puts: Another proven tactic is selling cash secured puts below the stock’s current share price, in order to achieve an even lower break-even price. The put trade listed here for CMI has a break-even only 3% above CMI’s 52-week low. These put options pay 9 to 16 times more than the dividends in these trades.
Your broker will secure a cash reserve in your account, equal to however many put contracts you sell, times the strike price of the put you sell. This amount is released once the puts expire or the trade is closed. Hence the term, cash secured puts. You’ll get paid for any puts and calls that you sell within 3 days of the trade, often even the same day. Note: put sellers don’t receive dividends, but call sellers do.
The best time to sell cash secured puts is normally when the stock is at the lower part of its range, which will give you an even lower break-even. Both CAT and CMI are higher-beta stocks, which fluctuate widely with the market, so check out their put prices during the next pullback. If you need to be even more conservative, you could also sell cash secured puts at a strike price further below the current share price. This will give you a lower premium, but a lower break-even also.
(You can see more details on these and over 30 other high yield options trades in our Cash Secured Puts Table.)
EPS/Sales Growth: Both CAT and CMI had strong EPS growth in their most recent fiscal years, and also strong sales and EPS growth in their most recent quarter:
Valuations: CAT’s PEG for its next fiscal year is very low, while CMI’s is consistent with the sector’s .87 PEG. CAT’s Price/Book and Price/Sales are consistent with its industry, while CMI’s Price/Book is a bit higher than its industry avg. of 2.58, but its Price/Sales is lower than the avg. of 1.30
Financials: Although CAT carries a heavier debt load, its interest coverage ratio is 5.9x.
Disclosure: Author is short puts on CAT and CMI.
Disclaimer: This article is written for informational purposes only and isn’t intended as investment advice.
Author: Robert Hauver © 2011 Demar Marketing All Rights Reserved