My colleague at StreetAuthority, Paul Tracy, has been finding low-risk and profitable investments for many years.
Lately, he has become concerned about the risks of the stock market over the long term and believes “dividends will account for ALL of the market’s return for the next decade.”
If he is correct, and the arguments he makes to support this conclusion are very strong, most buy-and-hold investors will face disappointments for years to come.[ad#Google Adsense 336×280-IA]The best long-term strategy is to buy high-quality value stocks that have sustainable, growing earnings and pay a safe dividend.
Paul is in good company.
Analysts at Bank of America Merrill Lynch recently wrote that they think mega-cap stocks, the largest companies in the world, will be the best investments in 2013.
I agree with these long-term views and I am certain that markets like this will offer a number of short-term trading opportunities.
We have already seen the S&P 500 spend the last 13 years going virtually nowhere even as it declined by about 50% twice and then more than doubled twice over that time.
Traders should be ready for that kind of extreme volatility in the next decade and should prepare by overweighting quality, dividend-paying stocks in their portfolio. One of the most attractive stocks to buy right now is Colgate-Palmolive (NYSE: CL).
Since the beginning of 2000, investors in CL have enjoyed a gain of more than 108%. The price of CL has risen 61% with dividends providing a significant return. The quarterly dividend has grown from 15.8 cents per share to 62 cents a share over that time, about 11% a year on average.
CL has been able to deliver gains for its investors because it has grown sales and earnings over that time. In the past five years, earnings growth averaged 9% a year and analysts expect to see earnings grow by about 8.5% in the next five years. The dividend, currently offering a yield of about 2.3%, only requires 47% of the company’s earnings, so additional growth in the dividend seems likely.
These factors make CL a strong buy. Of course, it would be an even better buy at a lower price. By selling put options on CL, we might have a chance to buy the stock below the current market price, and if CL continues moving higher, then selling puts will provide immediate income.
CL is trading at about $106.31. Put options with an exercise price of $100 expiring on Jan. 19 are trading for about $0.21. This trade would generate immediate income of $21 since each options contract is for 100 shares and would require a margin deposit of about $2,000.
If CL closes above $100 when the options expire, the $21 income represents the total profit on the trade. That would be a 1% gain in less than three weeks, an annualized gain of more than 17% a year.
If CL is trading below $100 when the options expire, then you will have to buy the stock at a price of $100 a share. This would require CL to drop by about $6 in three weeks. The option is unlikely to be exercised unless there is a very large market move. Traders will be able to sell a later month put after expiration if the January put expires worthless.
A put selling strategy offers a way to generate immediate income. This strategy also creates an opportunity to buy stocks below their current market price. Put selling should only be used with high-quality stocks like CL, which is a buy at the current price but would be a bargain at a lower price.
Recommended Trade Setup:
— Sell Colgate-Palmolive (NYSE: CL) Jan 100 Puts at the market price
— Do not use a stop-loss
— If CL is trading above $100 at expiration, the trade delivers a 1% gain in three weeks. If CL is below that price, traders acquire this high-quality stock at a 5% discount to the current price.