Oil hits a three-year low... Why you have more exposure to oil than you realize... The right and wrong way to sell puts... Watch Doc's second free video...
We'll continue our discussion of one of our favorite trading strategies – which Dr. David "Doc" Eifrig uses in Retirement Trader – in a moment. (If you missed yesterday's piece, you can read it here.)
But first, we'll discuss the extreme move in oil prices.
Oil prices are down 25% since June, hitting a three-year low. West Texas Intermediate ("WTI") crude oil – the U.S. benchmark – is now trading for less than $77 a barrel.
The drop has crushed shares of both domestic oil producers and energy-service providers.
If you don't own these stocks, congratulations... You've avoided price declines of up to 75%. Oil and gas company Goodrich Petroleum (GDP) has been one of the worst performers. The stock fell nearly 7% today after the company missed earnings expectations...
Even if you don't own any oil and gas stocks, you may not be completely out of the woods. Chances are good that you're more exposed to the oil sector than you think...
While falling oil prices are generally good for the economy (companies and individuals spend less on energy, which frees up capital for other uses), it's a big problem for companies that produce and sell energy.
In a private e-mail, Extreme Value research analyst Mike Barrett explained the potential problems lurking in your portfolio...
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As Mike explains, Berkshire Hathaway isn't the only blue-chip stock with significant exposure to oil prices...
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Now, we continue with our discussion of selling put options. Yesterday, we noted how skeptical readers are about Doc's astounding track record. He has closed 189 winning positions out of 191 – an almost 99% win rate.
We also walked you through the basics of put selling. Today, we'll share Doc's secret for successful put selling. As we mentioned yesterday, this series originally ran in September 2012. And while the numbers are out of date, the strategy and its benefits remain unchanged.
As we noted yesterday, there's a right way and a wrong way to sell puts. We'll cover both today. First, the wrong way...
Remember... by selling a put, you agree to buy a stock at a predetermined price at a predetermined point in the future. If you agree to buy a stock at $25 per share two months into the future, and the shares decline to $10 per share, you still have to buy shares at $25. Thus, you lose $15 ($25 minus $10 = $15) for every share you agree to buy, unless you take the early loss and sell the contract before it expires (which still results in a large loss).
This is important. So I'll repeat it: By selling put options, you are "on the hook" for buying shares. If the stock you sell puts on plunges, you can suffer large losses. And this is where the vast majority of put sellers go wrong... and where Doc and his readers "go right."
You see, the premiums an investor can collect by selling puts on risky, volatile stocks are typically higher than the premiums he can collect on safe, steady blue-chip stocks, like Microsoft or Coca-Cola. So, tempted by the allure of larger cash premiums, many investors sell puts on risky stocks. And yes, these investors might collect a big cash premium, but they put themselves in great danger... and leave themselves "exposed" to a large loss should that risky stock experience a big price decline.
To put "real money" amounts on the example above... let's say you sell options that put you on the hook to buy 500 shares of a stock at $25 each. And imagine that by the time your options expire, the stock has plummeted 40% to $15 per share. In that case, you would be obligated to buy $12,500 worth of stock (500 shares times $25 per share)... even though the current market value is $7,500 (500 shares times $15 per share). In this example, you would lose $5,000 ($12,500 minus $7,500).
I know a 40% fall sounds drastic... But these types of declines frequently occur in risky stocks. I'm talking about expensive growth stocks and low-margin businesses like airlines and steelmakers. And these types of falls represent big risks for put sellers.
Doc mitigates this risk by only selling puts on the world's safest blue-chip companies that are trading at bargain prices. He only sells puts on stocks he is happy to own. Porter and many of our other analysts have called selling puts on high-quality, blue-chip stocks "the most consistent trading strategy" they've ever used.
Regular Digest readers know about these kinds of stocks. These are "dominator" businesses like Intel, Coke, Microsoft, and Wal-Mart. They hold No. 1 positions in their markets... rake in huge amounts of cash... and usually pay safe, growing dividends. They rarely suffer substantial declines... and when they do, they are usually temporary stumbles. Those dips are almost always a great time to step in and buy them at bargain prices.
Again... these stocks rarely suffer large price declines. So most of the time, Doc's readers never have to buy the stocks. They simply keep the cash premiums because the stock doesn't sink below the price they've agreed to pay. But even when these stocks do suffer a decline... down to bargain prices... you're happy to buy the shares. You're happy to buy "dominator" businesses on the cheap. And you're happy to start collecting steady dividends.
That's what makes this strategy so safe and profitable. It offers lots of ways to win. This is in contrast with many other trading strategies that have only one way to win... and lots of ways to lose.
So far, about 79% of Doc's initial put sales have resulted in the option expiring worthless... In other words, readers who followed Doc's advice kept the premium and did not have shares "put" to them. In these situations, readers simply book the premiums and move on to the next trade. Here's how one such trade worked out...
On September 6, 2011, Doc sold October $19 puts on Intel. As most every Digest reader knows, Intel dominates the semiconductor industry to such a degree that competing with it is usually a sure path to bankruptcy. It has a "fortress" balance sheet, huge cash flows, and pays a dividend of more than 3%. At the time of Doc's put sale, shares of Intel were trading for $19.54.
The strike price in this case is $19... So as long as shares of Intel were trading for more than $19 when the options expired in mid-October, subscribers would keep the entire premium.
Retirement Trader readers received $0.90 per share in premium for selling puts on Intel. Remember, each put contract you sell is for 100 shares... So in this example, subscribers would have earned $90 per contract sold. Selling 10 contracts would have produced $900 in premiums.
These options "expired worthless" on October 21, 2011... From the time Doc sold puts on Intel, the stock rallied from $19.54 to $24.03. Readers who followed his recommendation walked away from the trade with hundreds, even thousands, of dollars collected safely.
Now remember... we said there are several ways to win with selling puts. And occasionally, Doc's readers are "put" the shares of these blue-chip dominators. (That means the stock trades below the strike price at the expiration date, and subscribers are responsible for buying those shares at the strike price.)
Some folks consider this a "losing trade"... But because we only sell puts on companies we'd want to own in the first place, this can actually be a great thing.
In tomorrow's Digest, we'll explain why and how you can continue to collect large amounts of income after being put a blue-chip stock.
Editor's note: Doc just released his second educational video on selling puts. In today's video, you can watch over his shoulder as he shows you exactly how to make a trade in your brokerage account. He also shows viewers a simple trick to make more money on every single options trade... And he discusses how he decides which stocks to trade.
You can watch the free video by clicking here. If you missed yesterday's video, you can watch it here.
Again, we aren't trying to sell you anything. We're simply sharing what we think is the safest and most profitable trading strategy out there. We've discussed the benefits of selling puts for years. But we know most of you still haven't tried it... So we continue to encourage you to consider it.
Doc is releasing the third and final video tomorrow... On Thursday, he's hosting a free live training session where he'll answer questions from viewers. To make sure you don't miss out, reserve your spot by clicking here.
New 52-week highs (as of 11/3/14): Apple (AAPL), CDK Global (CDK), CME Group (CME), CVS Health (CVS), WisdomTree Japan Hedged Equity Fund (DXJ), InterDigital (IDCC), Leggett & Platt (LEG), Altria (MO), Procter & Gamble (PG), PowerShares QQQ Fund (QQQ), ProShares Ultra S&P 500 Fund (SSO), Constellation Brands (STZ), Skyworks Solutions (SWKS), ProShares Ultra Utilities Fund (UPW), SPDR Utilities Select Sector Fund (XLU), and Alleghany (Y).
One subscriber wonders if we're using "creative accounting" for Doc's track record... And another discusses trading on margin. Do you subscribe to Retirement Trader? How much money have you made through Doc's recommendations? Let us know what your experience has been at feedback@stansberryresearch.com.
"Although I'm a subscriber (recent) to subject program, I question the stats e.g. Doc is 48 for 48. In just 2 months I've already had one (Baxter) put to me. How can this be scored as a win? Also several other recommendations have been closed at a loss and new positions opened which may or may not eventually be winners. Are we using creative accounting?" – Paid-up subscriber Dick
Goldsmith comment: A position isn't a winner or a loser until you close it. You're either put shares or the option expires worthless and you simply keep the premium. Factoring in the premium you receive upfront, you can still be showing a profit even if you're put shares. Then you can turn around and sell covered calls to generate even more income. In Retirement Trader, we don't consider a position a "loser" unless we stop out of the trade. But don't spoil the surprise... We'll discuss much more about this later this week.
"It should be noted that in some accounts, such as an IRA or Roth, you are not able to use margin. I trade for my daughter in her retirement account as an example, and although she has hundreds of thousands in the account, she has to pay the full option price for whatever stock I sell for her, such as AAPL, which is close to $11,000 at this time. This is also true of my wife's Roth where I also trade Puts." – Paid-up subscriber Peter Courtenay Stephens
Goldsmith comment: Doc offers an IRA Alternative trade (using covered calls) for people who trade in their retirement accounts.
Regards,
Sean Goldsmith
November 4, 2014
Dan Ferris: Two qualities of the world's greatest businesses...
Editor's note: Yesterday, Extreme Value editor Dan Ferris shared three clues of a great business. In today's Digest Premium, he shares two more signs of a great business...
Stansberry Research: Most of the companies you've mentioned are big and super well-known. How important is an elite name brand?
Dan Ferris: A recognizable brand that everybody really wants is a big advantage.
Think about the difference between, say, Hershey and any other candy bar: It's three o'clock in the afternoon, and you feel like having a Hershey bar to get you through the rest of your work day. You walk outside your office and there's a little store on the corner. You go inside, and see some other brand of chocolate bar, but no Hershey. Right across the street, there's a 7-Eleven that you know has Hershey bars. I think many, many people would cross the street for the Hershey bar. THAT is a great brand.
When I shave, I use Gillette. There's just no substitute for it. When I sit down for lunch in a restaurant I've never been to, my first question for the server is, "Coke or Pepsi?" If it's Coke, I'm good. If it's Pepsi, I'll have iced tea. At dinner, my first question is, "Do you have Sam Adams?" I hardly ever drink any other beer. I don't think I'm that unusual. People trust certain brands.
That's one of the reasons McDonald's is so successful. You can get exactly the same food at all 30,000 restaurants. It's uncanny when you think about it, how they're able to make all those identical Big Macs all over the world every day.
I could go on, but you get the picture. They could raise the price of Coke, Big Macs, Sam Adams, or Gillette razors by 10% or even 15%, and it wouldn't faze me a bit. That pricing power is one of the primary attributes that makes an elite brand name so valuable as a business.
Of course, it often goes hand in hand with other traits. Coca-Cola is known all over the world. At the same time, it has the world's largest beverage-distribution system... meaning it can sell a lot more of any product than anyone else.
So if you create some new soft-drink product, you can either try to build a distribution system yourself or you can just go to Coke – which has the world's biggest distribution system – and you could conceivably get that product into more people's hands quicker than by any other means.
Stansberry Research: Any other traits common among great businesses?
Ferris: There's one more that's also related to the others... and that's scalability. It's not a coincidence that many of the world's greatest businesses become huge blue-chip companies. A great business can be scaled quite easily... So given enough time, many of them grow to be very large.
It's an advantage in some ways. Obviously, it's a hindrance in others. You can't grow as fast once you're big. But you can still grow. And in general, you can pay for that growth much easier than your smaller competitors can.
Like I mentioned before... Wal-Mart is better at cutting costs and moving large amounts of merchandise for a low price than anybody else is. ExxonMobil is better at navigating the cycles of the oil and gas industry than anybody else is.
You can go right down the list and say this company is better at this than anybody else is... and it's how they got so enormously big. Wal-Mart, ExxonMobil, Apple, Microsoft... They are some of the biggest companies in the world, and they're all hugely successful.
That's probably the simplest way to see there's something special going on... that they have something other companies don't.
Editor's note: These kinds of companies dominate their industries, sport recognizable brand names, gush cash, have fortress-like balance sheets, and pay large (and growing) dividends. Dan recently published a book where he teaches readers how to identify these stocks – which he calls "World Dominating Dividend Growers" – and more importantly, when to buy them. If you want to earn safe, steady, and growing income, this book is a must-read. Learn more about it here.
Dan Ferris: Two qualities of the world's greatest businesses...
Yesterday, Extreme Value editor Dan Ferris shared three clues of a great business. In today's Digest Premium, he shares two more signs of a great business...
To continue reading, scroll down or click here.