Today’s income-generating options trade utilizes a dividend capture covered call strategy, whereby the trades nets you attractive premium income, potentially attractive dividend income (if the shares don’t get called), and captures attractive share price gains (if the shares do get called). The trade is on a compelling “high-dividend” midstream company that we own already, but you can also purchase the shares as part of this trade if you don’t own them already. We believe the trade is attractive to place today, and potentially over the next few days, as long as the share price doesn’t move too dramatically, and as long as you own the shares (settled in your account) prior to the ex-dividend date (expected on or around July 29th).
Enterprise Products Partners (EPD)
Dividend Yield: 7.3%
Briefly, Enterprise Products Partners L.P. (EPD) operates one of the largest integrated networks of midstream infrastructure for natural gas, natural gas liquids (NGL), crude oil, petrochemical and refined products in the US. EPD has a resilient business model backed by fee-based income from a broad range of business lines. It also has 22 consecutive years of distribution growth. We wrote a detailed full report on EPD earlier this year, and you can access that report here.
EPD Share Price. Source: YCharts
The Trade:
Buy Shares of EPD, Sell Call Options on EPD with a strike price of $26 (~5.7% out of the money, it currently trades at ~$24.60), and an expiration date of August 20, 2021, and for a premium of at least $0.12 (this comes out to approximately +4.7% of extra income on an annualized basis, ($0.12/$24.60 x (365/38 days, annualized)). Furthermore, this trade not only generates attractive premium income for us now, but it gives us the possibility of also capturing the large EPD distribution as long as the shares don’t get called away from us prior to the ex-dividend date on August 20th. The dividend payment is $0.45, which equates to 17.6% of extra income on an annualized basis ($0.45/$24.60 x (365/38 days, annualized)), and it can actually be higher if you exit this trade prior to expiration.
Further still, in our view, EPD is an attractive long-term investment, so if the shares don’t get called we’d be happy to keep them. And if the shares do get called we still get to keep the premium income we generated for selling the calls and possibly also the dividend income. Plus, if the shares do get called then that frees up our capital to move on to another “dividend capture covered call” trade. This trade will net us significant extra income on our $24.60/share investment. Rinse and repeat.
Your Opportunity:
We believe this is an attractive trade to place today and potentially over the next few days as long as the price of EPD doesn't move too dramatically before then, and as long as you’re able to get your arms around the workings of this trade as well as generate annualized premium that you are comfortable with. Also very important, you need to implement this four days prior to the ex-dividend date (the date the shares begin trading without the dividend) because it takes T+3 days to settle. That means you should execute this trade next week at the latest.
Our Thesis:
Again, our thesis is basically that EPD is an attractive long-term high-income investment (we own shares) trading at a reasonable price. Furthermore, the income generated by this trade (i.e. upfront premium income + the possibility of receiving the dividend) is also attractive. If the shares get called before the ex-dividend date—we’re moderately happy, if they get called after the ex-dividend date—we’re even more happy, and if they don’t get called at all—we’re happy to keep owning this attractive long-term income investment.
Important Trade Considerations:
Two important considerations when selling put options are contract sizes and earnings announcements. With regards to options contracts, they trade in lots of 100, so you need to be comfortable purchasing 100 shares of EPD in your account—which is not too large considering EPD trades at around $24.60/share. Secondly, it’s important to pay attention to earnings announcement dates because this is often when new news comes out that can move the stock price significantly thereby impacting your trade. And in this case, EPD is expected to announce earnings the morning of July 28th, which is BEFORE this trade expires. This adds some uncertainty volatility to this trade, but we are comfortable that the income potential outweighs the earnings uncertainty risk.
Conclusion:
Enterprise Product Partners is an attractive high-income investment. It has a long-track record of maintaining (and growing) high distribution payments to investors. And despite the fact that the businesses long-term contracts help it from being overly impacted by potentially volatile energy prices, EPD’s business is helped by the higher energy prices we have experienced this year (see our earlier report, linked earlier).
The annualized premium (and potentially dividend) income on this trade is compelling, and repeating this type of trade can lead to significant regular income payments. Importantly, EPD is an attractive long-term income investment in its own right. Overall, we view this trade as an attractive opportunity if you are an income-focused investor.