Bad news tends to dominate the headlines
and we often miss the signs of good news that are buried lower on the
page. One example of good news was the
unemployment rate for November falling to 7.7%, a four-year low.
As people return to work, the
economy should grow, and that growth
will
benefit a number of companies. Energy companies are usually among the
winners in a growing economy. These companies can be risky, though,
especially if the price of oil falls, but there are some companies that
are diversified energy plays.
Phillips 66 (NYSE: PSX)
is a diversified energy company. With 15 refineries, PSX offers a way
to benefit if the demand for oil and gasoline rises, as it would if the
economy grows. The company's 10,000 gas stations and retail outlets
would benefit from an increase in the number of miles driven. And demand
and prices of its chemicals will increase with gains in industrial
production. With so many ways to benefit from growth, PSX is in some
ways a trade on
GDP.
PSX was spun off from ConocoPhillips (NYSE:
COP) earlier this year and has a limited trading history. The stock does seem to be undervalued, trading at a price-to-earnings (
P/E) ratio of about 6, less than half the average of large-cap stocks in the stock
market. Earnings are expected to drop next year, but PSX still looks undervalued with a P/E ratio of 9 based on next year's expected
earnings. After falling next year, analysts expect
earnings per share (EPS) to grow at about 7.2% a year, a number I think we can use to define a
fair value for PSX.
Some analysts believe that a stock is trading at fair value when the P/E ratio is equal to the
EPS growth rate, a measure known as the price/earnings to growth ratio (
PEG).
Analysts expect EPS for PSX to come in at $6.22 next year. Assigning a
P/E ratio of 7.2 to those earnings, the stock would have a fair value of
about $45 a share. I like PSX as a long-term
investment and would like to buy it at $45, and by selling a put I might be able to do that.
Put
buyers expect to see a stock price fall. Put sellers may think that the
stock price will go up or stay the same, or they may be selling because
they are willing to invest in the company at the right price. Since I
believe PSX would be fairly valued at $45, I can sell a put at $45 and
buy the stock at that price if it falls about 17%. If PSX reaches $45 by
the time the put expires, I own a great stock at a fair price. If PSX
does not fall that much, I earn income from the premium that I collect
when I sell the put.
January $45 puts are trading at about $0.28. Each
put option is for 100
shares, and selling one put will generate $28 in immediate income.
Brokers allow these types of trades with a 20%
margin,
or $900 in this case. If the put expires worthless, the 3.1 % income
works out to an annualized rate of return of about 27%. If the put is
exercised, I believe that PSX will deliver a total return of more than
10% a year in the long-term when the$1.25 a share annual
dividend is considered.
PSX looks like a long-term winner, but it also looks slightly
overvalued. A put sale creates an opportunity to earn income while waiting for PSX to fall to a fair valuation.
Recommended Trade Setup:
-- Sell PSX Jan 45 Puts at the
market price-- Do not use a stop-loss
-- If the puts are not exercised, the premium received will be a 100%
profit; if they are exercised, then PSX will be bought at about 7 times next year's expected earnings
Today John Embry spoke with King World News about why the price of
silver is going to smash through $100 and what the Chinese are up to in
critical markets. Here is what Embry, who is chief investment
strategist at Sprott Asset Management, had to say: “The central
planners recognize that the whole system is based upon keeping the
collateral that’s supporting all of this debt elevated. Consequently,
if gold and silver were to suddenly start to rocket up in price and
truly reflect what’s going on, interest rates would follow briskly
behind them and the whole bond market would literally collapse.”
