Double Dividend strategy

Double Dividends on SPHD

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Double Dividend strategy

Who doesn’t want to earn double dividends on their stock portfolio? I started to deploy a covered call strategy to maximize earnings potential on my assets and earn “double dividends”. This strategy will be deployed against my 100 shares of Invesco S&P 500 High Dividend Low Volatility ETF (SPHD) that currently sit in the Money Tree portfolio. Just because I have completed one of my goals by obtaining 100 shares of SPHD, it doesn’t have to be a simple buy and hold approach to collect dividends. This was an important goal because it serves as the foundation of my dividend portfolio to generate passive income. I like to summarize it as a double dividend approach

Why do I call it a double dividend?

Currently, SPHD pays approximately a 5.0% dividend yield at the current price of around $39.72 per share. By owning at least 100 shares and SPHD is optionable, I have the opportunity to sell a call option every month and earn the “second dividend” by capturing the call premium of that contract.

What is a call option?

Looking to Investopedia to help describe a call option, here are the key takeaways:

  • A call is an option contract giving the owner the right, but not the obligation, to buy a specified amount of an underlying security at a specified price within a specified time.
  • The specified price is known as the strike price and the specified time during which a sale is made is its expiration or time to maturity.
  • Call options may be purchased for speculation or sold for income purposes. They may also be combined for use in spread or combination strategies.
  • A call option may be contrasted with a put, which gives the holder the right to sell the underlying asset at a specified price on or before expiration
  • For options on stocks, call options give the holder the right to buy 100 shares of a company at a specific price, known as the strike price, up until a specified date, known as the expiration date.

What is the Covered Call Strategy?

Leaning on Investopedia again, “some investors use call options to generate income through a covered call strategy. This strategy involves owning an underlying stock while at the same time writing a call option or giving someone else the right to buy your stock. The investor collects the option premium and hopes the option expires worthless (below strike price). This strategy generates additional income for the investor but can also limit profit potential if the underlying stock price rises sharply.

Covered calls work because if the stock rises above the strike price, the option buyer will exercise their right to buy the stock at the lower strike price. This means the option writer doesn’t profit on the stock’s movement above the strike price. The options writer’s maximum profit on the option is the premium received. The investor’s long position in the asset is the “cover” because it means the seller can deliver the shares if the buyer of the call option chooses to exercise. If the investor simultaneously buys stock and writes call options against that stock position, it is known as a “buy-write” transaction.

Real Life Example with SPHD

Before we get into the details, let me remind you that I currently hold 100 shares of SPHD in the Money Tree portfolio. This was one of the most recent goals in setting up the foundation as my passive income stream. I chose SPHD due to it’s high dividend yield and low volatility. Over the course of 15 months, I was able to own 100 shares of SPHD through a monthly dollar cost averaging approach. My first purchase of 11 shares was in September 2019 at $42.85 but my cost average for the 100 shares has settled to $36.74 not counting dividends. Since then, I have been able to earn over $138 in dividends, which would take my current break-even price per share to $35.35

Since I will be collecting the monthly dividend on this portfolio holding, my true goal is to get my break-even price per share to $0 through dividends and call option premiums. So, here is my first call option trade that I have done to start:

Option Expiration Date of May 19, 2021

Option Strike Price of $40.00

Call Option Premium of $0.50 per contract, or $50 for the 100 shares

Transactions fees of $0.55

Net Proceeds of $49.45

Key here is to ensure you select an “out of the money” strike price when you initiate a covered call strategy for double dividend purposes. The reason being that if the stock will have to appreciate to the strike price for the holder to potentially call the shares away before the ex-dividend date. Since that is a possibility that can occur, you will earn the stock appreciation instead of the dividend.

Range of Gains/(Losses)

Here is a chart of what it all looks like at the time of expiration, March 19th, 20201. The red dashed line shows the original investment of the 100 shares of SPHD for a total of $3,674. The black dashed line is taking into account the dividends that I have earned to date to reduce my net cash outlay for this investment to $3,535. Lastly, the solid black line is what the covered call strategy looks like with one month of call option premium collected at $49.45.

Double Dividend

As you can see, the covered call strategy caps your upside within the specific time period of the contract, in this case for 26 days until March 19th, 2021. This is the main reason why I only do covered call strategies with ETF’s and low volatility stocks, although that limits the option premium

Tax Consequences and Disclaimer

Key disclaimer here is that the information that I have shared here has not included any tax impact on the above example and future portfolio impact. Please be aware that these are the views of the author and any action you take upon the information on this website is strictly at your own risk, and we will not be liable for any losses and damages in connection with the use of our website.

Conclusion

I like this strategy because is helps generate income, in addition to, the dividends from the exchange traded fund (ETF) that I currently own. I deploy this approach because I intend to hold the stock for the long term and will continue to do covered calls, or buy writes, to improve my overall yield with the ultimate goal of getting my break-even price to $0 for these 100 shares.