An unusual number of out-of-the-money put options in Johnson & Johnson (JNJ) traded today. This comes after the Aug. 30 spinoff of its consumer Kenvue business. This could be a good income play for short-put traders.
This can be seen in Barchart's Unusual Stock Options Activity Report on Sept. 6. It shows that over 10,000 puts were traded at the $150 strike price for expiration on Nov. 17. The JNJ stock price today is $157.76, so the strike price is still out-of-the-money by 4.85%.
However, the put has 72 days before expiration, so the contract runs for almost two and a half months from today.
Moreover, the premium paid for these puts was $1.21 per put option. This means that the buyers of the puts have to hope that JNJ stock will fall below $148.79 if they hold the puts until expiration, or 5.62% below today's price.
On the other hand, traders who are shorting these puts get to keep the $1.21 per put. As a result of their investment of $150 to secure the short-put trade, they make an immediate yield of 0.8067% (i.e., $1.21/$150).
This might be a good deal if JNJ stock stays at the present level or even rises, now that it has spun off its consumer business. The company is trading at Kenvue (KVUE).
Where Things Stand with JNJ Stock
There is good reason from a valuation standpoint that investors can be bullish on JNJ stock. For one, on Aug. 30 after the spinoff occurred, Johnson & Johnson released its own forecast of earnings for 2023.
They now expect to report adjusted earnings per share of $10.00 to $10.10 per share, a very narrow and precise range. Therefore at $157.76, JNJ stock is trading for just 15.8x earnings for this year.
That does not seem like an excessively high valuation. In fact, Morningstar reports that over the past five years, JNJ stock has had an average forward P/E multiple of 16.3x. So from that standpoint, the stock is trading below its average earnings multiple.
Moreover, the dividend is not being cut. In fact, Johnson & Johnson has increased its dividend every year for the past 60 years. JNJ pays $1.19 per quarter ($4.76 per annum) and it is likely to increase the dividend after the next upcoming payment. That could raise the dividend to $5.00 with a 5% dividend raise.
As a result, at today's price, the stock has a decent 3.16% dividend yield on an expected basis.
Shorting JNJ Puts for Income
The problem with spinoffs is that everyone sells the spinoff stock (KVUE) and sometimes they get upset at the parent company, given its drop, and sell that stock as well. That could be happening here with JNJ stock and it's possible the stock could drop below the $150 strike price.
As a result, it might be too early to short JNJ puts, especially for an expiration period that is 2.5 months in the future. It would be better to sell short more near-term expiration contracts as well as deeper out-of-the-money (OTM) put contracts.
For example, shorting the $150 strike price put for the Oct. 6 expiration period provides 64 cents in premium. That could be repeated twice and collect $1.28 in premium, which is even higher than the $1.21 for the 2 ½-month expiration in this highlighted trade.
In other words, it makes more sense to short nearer term put near-term expiration contracts rather than follow investors into this trade.
On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
