Shares of American icon
have been on quite a ride this year.
The stock sold off on July 22, following the company's Q2
earnings announcement despite a solid beat on both the top and
bottom line. Revenue rose 12% year over year to $2 billion, and
earnings came in 34% higher at $1.62 per share. The Street had
only been looking for EPS of $1.46 on $1.8 billion in sales.
However, management said it was disappointed with the sales
figures, which it blamed on poor weather conditions, and slashed
its full-year shipment growth expectations to 3.5% to 5.5% from a
previous 7% to 9%. This prompted a downgrade from Argus to
"neutral" from "buy."
Yet, the stock appears to have bottomed in early August,
making a higher low versus its February low, and shares have
begun to tick up. I think the downside has already been priced in
at these levels. The company's share buyback program and stock's
1.7% dividend yield should also help put a floor under
HOG currently trades at 14.6 times next year's estimated
earnings of $4.38 per share, below its historical average P/E of
16.8. A fair value estimate for the stock's price based on 2015
EPS estimates and a P/E of 16 puts it at $70 a share.
We can use the recent volatility in HOG to our advantage by
. On the chart, I added the 20-day price channel, which is a good
gauge of how far the price shifts during that period. Higher
volatility means higher
, and as option sellers, this means we can generate
above-average levels of income
Specifically, I'm looking at selling the
HOG Nov 62.50 Puts
By selling these puts, we immediately generate $200 per
contract and accept the obligation to buy 100 shares of HOG per
contract at the $62.50
if the stock is trading below this level when the puts expire on
Nov. 22. If HOG appreciates as expected, our put will expire
worthless, and we can pocket the $200 free and clear.
On the other hand, if HOG falls below $62.50 before
expiration, we will be
at a net cost of $60.50 ($62.50 strike price minus $2 option
premium). In other words, we will be buying a discounted stock we
are bullish on at an additional 5% discount, and will not
experience a loss unless shares fall below this level. HOG has
not traded below $60.50 since August 2013, and it seems unlikely
it will do so in the next three months.
However, in order to cover this potential obligation, we need
to set aside $6,050 per contract of our own capital, along with
the $200 we receive from selling the puts, as collateral. If HOG
is above $62.50 at expiration and the contracts expire worthless,
our $200 in income will represent a 3.3% gain over the $6,050
that we allocated to this trade. Since that will be generated
over 86 days, our per-year
rate of return
nets out to 14%.
In this case, once the puts expire in November, as long as HOG
hasn't risen to its intrinsic value of $70, we can continue
selling puts to generate a steady income stream. And if we do end
up owning shares, we still get an undervalued stock with a
healthy dividend that should provide a generous return.
Using this strategy, my colleague Amber Hestla just closed her
66th straight winning trade. You can learn more about her put
selling strategy and see her first 52 trades
This article originally appeared on ProfitableTrading.com:
This American Icon Took a Beating, but Now It's
Back on Track