A not so TD-ous trade

TD is an extremely well-run bank with diversification across many business lines and geographies. The share price has pulled back from its 52-week high of $71.31 set back in late February by around 8.5%. With shares hovering around the $65 mark, I want to pick up some yield or look to get long the stock at even lower prices. At the time of writing, I can sell the October $64 cash-covered put for $1.40. Collecting $1.40 is a current yield of 2.2% ($1.40/$64) and an annualized yield of 9% (see math below). 2.2% is a very attractive current yield when we consider that the trade is only 93 days long, especially given that the dividend yield is 3.67% annually. I also really like this level of premium because if we look back over the past four months the share price has been stuck in a range between $62 – $67. If the share price stays above $64, I keep the $1.40 and the options expire worthless. If the share price declines below $64 at expiry, I still keep that $1.40, buy the stock at $64 and my net outlay is $62.60 (excluding transaction costs), which is close enough to the bottom of the trading range that I am happy to own the stock there.

When selling any cash-covered put, a person wants to go through a checklist before doing so. First, I want to make sure I have the cash to buy the stock in the event that it drops. If I don’t have the cash, then it is not cash covered, and I am using leverage, which doesn’t fit with a conservative investment style. Second, I want to see what sort of event risk there is during the period. In the case of TD, they report on August 31. I like that because that date falls about halfway to expiry. If the report is good and the stock moves higher, the value of these options is going to fall dramatically and I may have the opportunity to buy them back for next to nothing and reallocate that cash to another trade. If the stock sells off, there is still a month and a half for the share price to potentially recover. Lastly, I want to make sure I’m doing this in a non-registered account. You cannot short puts in a registered account.

Overall, I think if a person is an income-oriented investor, prefers to buy on pullbacks and wants large-cap Canadian content in their portfolio, this is a great way to achieve that. If you have any questions, reach out to me.

Chris

The information contained herein is for general information purposes only and is not intended to provide financial, legal, accounting or tax advice and should not be relied upon in that regard. Many factors unknown to Christopher Thom may affect the applicability of any matter discussed herein to your particular circumstances. You should consult directly with your financial advisor before acting on any matter discussed herein. Individual situations may vary.