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Tuesday, March 18, 2014 - 07:00
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Tuesday, March 18, 2014 - 07:00

Get An 18.8% 'Yield' -- From A Sub-1% Yielder?

Tuesday, March 18, 2014 7:00 AM

The Goodyear Tire & Rubber Co. (Nasdaq: GT) is one of the world's leading tire companies. It is the #1 tire manufacturer in North America and Latin America, and operates 52 plants in 22 countries. It also has approximately 1,240 tire and auto service centers.

Shares have been in a steady uptrend for the past year, more than doubling in price. They now trade at six-year highs and well above their 50-day, 100-day and 200-day moving averages.

The stock surged 11.5% on Feb. 13, after the company released strong quarterly results. Goodyear's fourth-quarter profit was up 90% year over year to $0.74 a share (excluding special items), handily beating Wall Street's estimate of $0.62 a share.

Full-year 2013 earnings rose more than 200% to $2.28 per share, from $0.74 in 2012. The consensus estimate for this year's earnings per share (EPS) is $2.96, and analysts expect $3.37 in 2015. GT is currently trading at about 8 times next year's earnings, and analysts expect EPS to grow an average of 15.7% a year for the next five years.

The price-to-earnings growth (PEG) ratio compares a stock's price-to-earnings (P/E) ratio to its earnings growth rate, with a reading of 1 being considered fair value. GT has a PEG ratio of 0.6, signaling that shares are undervalued.

I like the steady growth and upside potential for GT, but the dividend is nothing to write home about. The company currently pays out only $0.20 a year for a yield of 0.7%. But we can turbocharge the income with a covered call strategy.

A call option gives the buyer the right but not the obligation to buy shares of the underlying stock at an agreed upon price (the option's strike price) within a certain period of time.

The seller of a call option (also known as the writer) sells the right to the buyer for a payment known as a premium. In doing so, the seller assumes the obligation to deliver the shares at the agreed-upon price should the buyer choose to exercise her or his right.

With GT trading at about $27.15 per share at the time of this writing, we can buy 100 shares and simultaneously sell a July call option with a $28 strike price, which is currently trading for about $1.72 ($172 per contract) and expires on July 18.

Since we receive $1.72 for selling the call, our net cost is lowered to $25.43 per share. Prices may be slightly different depending on when you read this, but I like this trade at a net cost of $25.50 or less.

Here's how this covered call trade could work out:

If the shares trade above the $28 strike price, the options buyer will purchase the shares from us at $28, giving us a gain of at least $2.50 per share, or 9.8% in 128 days. This works out to a 28% per-year rate of return.

If GT trades lower, we would not experience a loss unless it falls below our net cost of $25.50 or lower, giving us a cushion of about 6% at current levels.

If GT is below $28 at expiration, then the call option will expire worthless. We then have the ability to sell another call option against the shares to generate more income and lower our cost basis further, while still collecting dividends.

If you were able to generate $1.72 in income every 128 days on this stock, that would add up to about $4.90 a year. Add in the $0.20 actual dividend, and you now have a "yield" of 18.8% at current prices.

This article originally appeared on ProfitableTrading.com:
The 18.8% Yield You Never Knew Existed on This Brand-Name Stock

P.S. My colleague Michael Vodicka is using a similar options strategy to multiply the returns of some of the world's most reliable dividend payers. To learn exactly how easy it is to turbocharge your income with this strategy, click here now.

Erik Epp does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.