Did this ever happen to you: Your stock is behaving erratically and you have no clue as to why. You made sure to avoid the earnings report. It does not report same store monthly retail sales. The technical indicators meet the system criteria. You check the recent news posted for this equity and nothing turns up. Despite all these things, the recent chart pattern looks like a roller-coaster and volume is way up. What could possibly be causing this? One possibility is that your stock has become victim to the dividend capture strategy.
Definition:
This trading strategy is the act of buying a security for its dividend, capturing the dividend, and then selling the stock to buy another about to pay a dividend.
Key dates associated with stock dividends:
- Dividend Declaration Date: The date on which dividends are declared by the board of directors.
- Ex-Dividend Date: This is the first day that the stock trades without the right to receive the current dividend. On this day the price will be reduced by the amount of the dividend from the price of the last trade in the previous trading session. To capture the dividend, you must purchase the stock BEFORE the ex-dividend date. If you purchase an equity one day before the ex-dividend date and sell it on the ex-dividend date, you are entitled to receive the dividends.
- Record Date: The date established by an issuer of a security for the purpose of determining the holders who are entitled to receive a dividend or distribution. It is automatic for shares purchased prior to the ex-dividend date.
- Payment Date: The date on which the dividends are deposited into your investment accounts or sent in the mail.
How to play this game:
Investors start purchasing a stock after the declaration date and before the ex-dividend date. Once the dividend is captured, the stock is held for 61 days so that the profit is taxed at a reduced 15% rate. If the shares are sold prior to 61 holding days, dividends will be taxed as ordinary income up to 35%. After the 61 day holding period, the stock is sold and the cash is diverted to another security about to go ex-dividend.
Receive 6 rather than 4 dividend payments:
Most companies pay dividends on a quarterly basis so an investor would receive four payments per year. However, if we use the dividend capture strategy and assume a 61-day holding period, an investor would then generate six annual payments (365/61 = 6).
Problems with this strategy:
- There is no guarantee that the stock price won’t fall more than the amount of the dividend.
- Required to hold the stock for 61 days after capturing the dividend in order to avoid the higher tax rate.
- The share price will go up before the ex-dividend date and depreciate after this date by at least the amount of the dividend. New buyers will not benefit from the dividend, a negative for share appreciation. This may result in a higher buy price and lower sell price.
- Trading commisssions and buy-sell spreads need to be overcome to make a profit.
Institutional investors play this game in a different ballpark:
That’s right….we play in the corner schoolyard and they play at Yankee Stadium. Market Makers, sophisticated firms with good clearing relationships and well-capitalized upstairs trading firms have virtually no transaction costs. As a matter of fact, many exchanges have instituted cap fees or a maximum ceiling on fees that can be charged to these players to encourage them to participate in such a strategy. The big boys can now take a .31 dividend, parlay that with hundreds of thousands of shares and negligible transaction costs and make a nice profit.
These institutional players also use a sophisticated options strategy to buy the shares at a lower price. By purchasing shares at a lower price and eliminating the bulk of the transaction costs, they have a much greater oppotunity to succeed with this strategy than the average Blue Collar Investor. I do think that it is possible to succeed with this strategy in certain bull market scenarios.
How the dividend capture strategy may effect our stock positions:
There are retail investors such as ourselves who use this strategy but they’re not the ones who move the markets. It’s the institutional investors who are buying and selling hundreds of thousands of shares. Prior to the ex-dividend date shares will rise in value. After this date, the shares will drop. A few days later they may or may not bounce back. So if you see your stock behaving with unusual volatility, it may be the victim of the dividend capture strategy. A free website that allows you to access informatrion on ex-dividend dates is:
http://www.dividendinvestor.com/tracker.php
Industry in the Spotlight: STEEL:
One of the best-performing industries over the past four months has been the steel industry. It is up 66% during this period of time. Of sourse, it was also one of the hardest hit since the recession began in December of 2007. This uptrend is cleary evident in the industry’s price chart:
Steel Industry as of 4-17-09
Because this group was hit so hard, it is difficult to find equities that meet our system criteria. One that does is MTL which meets our Green Alert criteria. You will note that there is no Scouter Rating for this stock because it is an ADR (American Depository Receipt) and many such foreign-based companies are not ranked on this site. The stock technicals, although not all positive, are improving dramatically, and poised to give us the green light to jump in. Here is the current chart:
MTL as of 4-17-09
Once we get moving average confirmation (short term breaks through long term), I would give this equity strong consideration. Let’s calculate a hypothetical covered call write:
Buy 100 x MTL @ $6.86 for a cost basis of $686
Sell 1 x May $7.50 call @ .50 = $50
ROO = 50/686 = 7.3% 1-month return = 87% annualized
Upside Potential = 64(750 – 686)/686 = 9.3%
This means that if the stock appreciates past the $7.50 strike price, your 1-month return would be 16.6%. The risk here is that we have no downside protection so if the stock goes down, it starts eating away at your 7.3% option profit. Once again, the charts are positive but not quite telling us to pull the trigger on this one. It is saying “keep a close eye on MTL.”
Economic News of the Week:
Prices for both consumers (CPI) and businesses (PPI) were lower in March in large part due to falling energy prices. Retail sales fell 1.1% in March and housing starts fell 11% in March to 510,000 annualized units. Permits for future construction also fell by 9%. On a positive note, business inventories declined by 1.3% in February, the sixth straight decline. Businesses are succeeding in bringing inventories in line with the weaker demand. Also, the Beige Book, the Federal Reserves survey of regional economies, indicated that in five of the twelve districts, conditions had stabilized or declines showed signs of slowing. For the week, the S&P 500 increased by 1.5% for a year-to-date return of – 2.9%.
Looking forward to hearing from you,
15 responses so far ↓
1 BOB BELTON // Apr 19, 2009 at 3:34 pm
HI ALAN,
I HAVE BEE
2 admin // Apr 20, 2009 at 12:17 am
I had an off-site inquiry that I will share with our group. The question was how to determine if a stock has options from the IBD website. This information is not available from the “quote page” but can be accessed via the stock ticker at the following link:
https://www.amazon.com/gp/sign-in.html?ie=UTF8&email=&disableCorpSignUp=&path=%2Fgp%2Fcustomer-reviews%2Fcreate-review&redirectProtocol=&mode=&useRedirectOnSuccess=1&query=store%3D%26asin%3D0977423352&pageAction=%2Fgp%2Fcustomer-reviews%2Fcreate-review
This is part of their option screen center which is part of their research area.
Alan
3 admin // Apr 20, 2009 at 1:50 pm
This week will be the busiest in terms of reported earnings for the May contract period. This has two major ramifications for options sellers:
1- There could be tremendous volatility as both positive and negative ER surprises are announced. This enhances the risk of our investments.
2- Many of the equities on our watch list are NOT eligible for cc writing. This reduces the pool of stocks and will reduce our option returns. Now, all the stocks on our lists that report this week, will be eligible for purchase next week. This will also erode the time value of our option premiums.
3- Many investors with low risk-tolerance (I’m guilty as charged!) will sell I-T-M strikes, thereby limiting potential returns in exchange for downside protection.
My approach to this scenario:
Wait for most ERs to pass and do my stock buys and options sales on Friday or next Monday with a realistic goal of achieving a 2 to 21/2 % 3-week. In other words, in certain market environments I will sacrifice potential returns for lower risk and decreased volatility.
Alan
4 Lisa S. // Apr 21, 2009 at 10:07 am
Alan,
Here are some stocks I’m doing really well with that I found using your system. Thought I’d share.
algt, tndm, bwld, ntes, aap, nflx
Thanks for your help,
Lisa
5 Richard G. // Apr 21, 2009 at 8:04 pm
Alan,
As a novice, I have a question regarding your ESOC. In the INTRO sheet, Example A, why is the gain in the stock price not included in the calculation of the return? That gain:
(59.75-58.50)x100=125 would add $125 to the $180 derived from the option premium, making the total return $305, i.e. 305/5850=5.2% for 29 days, rather than the meager 3.2% cited in the ESOC. Am I wrong?
Your new disciple,
Richard
6 admin // Apr 21, 2009 at 10:03 pm
Richard,
(For those who do not have the ESOC or this particular sample, the strike sold was $60 and therefore the shares were not assigned.)
Richard,
The fact that you are even asking this question as a novice is impressive. Many investors do not like to calculate share appreciation as profit until the stock is sold or called. Technically you have made that additional profit on paper and if you sell the stock I WOULD include this in my calculations. However, if you keep the stock and sell another $60 call for the next contract period, the stock price will fluctuate and that additional appreciation may or may not hold during the next month. Analogy: The value of my home went up $20k last year; therefore I generated $20k profit into my portfiolio. If you sell an option to buy that home, that premium IS profit. Do you include the property appreciation? Some would; others wouldn’t.
BTW: I like the way you refer to a 3.2% 1-month return as meager! This is a whole new way of thinking, isn’t it?
Best,
Alan
One point to make here is that your next month’s premium will be higher than the previous one because the price is closer to the strike.
7 admin // Apr 22, 2009 at 8:36 am
Let’s do a calculation on one of Lisa’s stocks (comment #4):
Buy 100 x NTES @ $30.82 = $3082
Sell 1 x May $30 call (I-T-M strike) @ $1.80
ROO= 180-82/3000 = 3.3% as we subtract the intrinsic value from the option premium and use that $82 to “buy down” the price of the stock from $30.82 to $30.
Downside Protection = 82/3082 = 2.7%
We are guaranteed a 3-week return of 3.3% as long as our shares do not depreciate in value by more than 2.7%
Alan
8 admin // Apr 23, 2009 at 11:35 am
Uptrending moving averages with the 20-d ema above the 100-d ema and price bars above the 20-d ema is what we are looking for technically. In an ideal world, the uptrend is gradual so that a downturn or consolidation is less likely to occur and if it does, it won’t be severe. Take a look at the charts of these equities and see if they belong on your watchlist:
AAP
CYBS
HANS
GMCR
Alan
9 admin // Apr 24, 2009 at 7:43 am
IBD rates the 25 best stocks over the past 25 years:
http://www.investors.com/pdf/MLlistWEB0413.pdf
Alan
10 admin // Apr 24, 2009 at 9:52 am
“Laddering Strikes”
Here are a few trades I just made using different strikes for the same stock:
Buy 600 x PWR @ $23.85
_____________________________
sell 3 x May $22.50 call @ $2.35
ROO = 235 – 135/2250 = 4.4% 3-week return
Downside Protecton = 85/2385 = 3.6%
_____________________________
Sell 3 x May $25 calls @ $1.00
ROO = 100/2385 = 4.2% 3-week return
Upside Potential = 115/2385 = 4.8%
In the case of O-T-M strike, there is a possibility of a 9% 3-week return.
Alan
11 The IBD 100- A Powerful Stock Selection Tool plus Industry in the Spotlight // May 10, 2009 at 12:56 am
[...] remarks by telling you that the industries this site has recently highlighted like the Casino, Steel and the Coal Industries are still on fire. This week I was looking for a new industry to add to [...]
12 BarryR // Aug 19, 2009 at 4:08 am
http://www.TopYields.nl
Free daily updated overview of the stocks with the highest dividend yields of the indices of Australia (ASX 20), Germany (DAX 30), India (S&P CNX Nifty), Italy (FTSE MIB), Mexico (IPC), Netherlands (AEX, AMX, AScX), New Zealand (NZX 50), Spain (IBEX 35), Switzerland (SMI), United States (Dow Jones Industrial, NASDAQ 100, NYSE), United Kingdom (FTSE 100) and Canada (TSX 60).
And a really handy overall top 100!
13 hystmanuscrixttd // Oct 25, 2009 at 1:48 pm
good day friends
my sister last week found a website. the shop is selling wide range of discounted designer clothing. they are listing the goods with almost 85% savings. my mother really needs to order a pair before the get away but not confident that order is going to be delivered in right on time. I am considering to order those prada shoes but not sure yet.
just wanted to share with you people.
thanks people.
14 Covered Calls and LEAPS- An Alternative Strategy // Feb 27, 2010 at 12:34 pm
[...] You do NOT capture stock dividends [...]
15 Dividendium // Mar 6, 2010 at 5:29 pm
Another site to find ex-dividend info for dividend capture strategies is http://www.dividendium.com.
The site details the dividend payment amount, the upcoming ex-dividend date, and whether the dividend stock has options or not.
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