Energy stocks have been on a tear this year and Exxon Mobil has been one of the leading stocks in the sector. After working off overbought conditions, XOM stock could be setting up for a new rally. Here's how to get it at a discount with options.
Cash-Secured Put Basics
One way to take ownership of XOM stock for less than the current price is via an option strategy called a cash-secured put.
A cash-secured put is a slightly less bullish trade than buying the stock and is considered a neutral to slightly bullish trade.
The idea is simple. You write, or sell, an at-the-money or out-of-the-money put option. At the same time, you set enough cash aside to buy the stock should you get assigned. There are two ways to win here. Either the put expires worthless and you keep the premium or XOM stock drops enough that you are assigned and acquire the stock below the current price.
Selling put options is an easy place for investors to start with options. They are like a covered call and are pretty easy to understand once you know the basics.
It's important to be prepared to acquire the stock if you are assigned 100 shares at the strike price. That's why the cash is set aside.
Getting XOM Stock At A Discount
With XOM stock trading at 78.42 yesterday, investors could sell a March 18 put with a strike price of 75 for around $1.25.
An investor selling this put receives $125 into their account, which is theirs to keep. If XOM falls below 75 by March 18, they would have the obligation to buy 100 shares at 75. The effective net cost of the position would be 73.75 per share, thanks to the option premium received.
That's 6% below yesterday's closing price.
If XOM stock stays above 75 at expiry, the put expires worthless. That's not a bad outcome either. The option trader gets a 1.7% return on capital at risk.
That might not seem like much but given the short time frame, it works out to be 36% annualized.
Risks Of The Cash-Secured Put
The main risk with the trade is similar to outright stock ownership. If XOM stock falls quickly, the trade will suffer a loss. However, the premium received helps to offset the loss.
The maximum loss on the trade occurs in the unlikely event that XOM stock falls to $0. In that case, the trade loses $7,375. Realistically, most traders would cut losses long before then.
Cash-secured puts are a great way to generate a return on strong stocks, potentially without ever having to take ownership.
What Looks Good About XOM Stock
XOM stock is ranked No. 1 in its group and has a Composite Rating of 99, an EPS Rating of 71 and a Relative Strength Rating of 96.
Income investors may also be interested in XOM stock for its above average dividend yield of 4.5%.
If the put does get assigned, the investor takes ownership with a reduced cost base. Additionally, the trader can begin to sell covered calls on XOM stock to generate additional income from the position.
Please remember that options are risky, and investors can lose 100% of their investment.
This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
Gavin McMaster has a Masters in Applied Finance and Investment. He specializes in income trading using options, is very conservative in his style and believes patience in waiting for the best setups is the key to successful trading. Follow him on Twitter at @OptiontradinIQ
