What This Crazy Picture In The News Can Teach Us About Risk
I spend a lot of time thinking about things that could go wrong.
Chalk it up to my previous life as an intelligence analyst for the military. But either way, part of my job is to worry about what might happen.
I worry about obvious things like inflation picking up… the Federal Reserve losing control over interest rates… problems with the manufacturing supply chain.
On that last point, the supply chain is under stress as the economy revives. Manufacturers and retailers are restocking, and that creates demand within the system. Many of these risks can be understood.
But even with the near-constant risk calculations going on in my head, I never expected to see a picture like this…
That, my friends, is a massive container ship stuck in the Suez Canal, completely blocking this key shipping lane in the Middle East. And it doesn’t take a rocket scientist to understand why that’s a problem…
This is important because about 3% of the world’s supply of oil passes through the Suez Canal every day. Currently, there are significant stockpiles of oil, but if the ship isn’t moved quickly, it could start to impact the markets.
Another result? Other cargo is also backing up, and that could affect manufacturers. This is one of those unforeseeable events that could have a big impact on the economy.
Unforeseeable events quickly fade from the news in a strong economy. In a weak economy, they become the initial event in a cascade of bad news. Hopefully, this ship will be freed quickly, and the story will disappear in days. However, there is still no firm plan for freeing the ship, so this could be the start of a story that affects the economy.
Another Major Choke-Point In Supply
As I’m sure you’ve noticed in the aftermath of Covid, supply chains are critical. Whether you’re talking about shortages at the grocery store or choked up shipping lanes full of cargo, anytime there’s a disruption – it can quickly spiral out of control and have big impacts on some markets.
One of the areas this is most apparent right now is in the housing market.
Home prices are rising rapidly as supply is constrained. The S&P/Case-Shiller U.S. National Home Price Index is up 10.4% compared to a year ago. Price gains like this were only seen in the bubble that occurred in 2005 and in the recovery from that bubble in 2015.
Source: Federal Reserve
Rapidly rising prices signal high demand, and I want to be in a positon to benefit from that.
That’s where a stock like homebuilder PulteGroup, Inc. (NYSE: PHM) comes in.
The company controls over 180,000 lots that can be built on, as well as access to suppliers and labor. They are among the few builders that can adapt to changes in the market, and analysts expect PHM to benefit. Earnings are expected to grow by more than 15% for the next two years.
The stock is reasonably valued at about 8 times this year’s expected earnings. It also pays a modest dividend yield of about 1.8%.
But rather than simply buy the stock, pocket our dividends over a year, and hope for the best — I recently told my Maximum Income readers about a better plan…
It involves a way to get paid extra income from stocks you already own. But that’s not where the benefits end… it also works as sort of an “insurance” policy – protecting you against potential downside. And it’s for that reason that I think it’s one of the easiest ways you can protect yourself (and profit) in this market right now.
How This Trade Works
I’ll give you fair warning on this one. This trade is fresh off the presses for my Maximum Income readers. And it’s already worked out well for us – so it may not be “actionable” for you today. But if you’re familiar with how this strategy works, you could tweak it and use it on your own.
Without going too much into detail, the trade we placed essentially allowed us to get paid to sell this stock at a higher price. That may sound strange to some of you, so let’s break it down…
I set a price at which I’m willing to sell a stock, usually enough to give me a good profit compared to where it’s currently trading. Then I go to my broker and tell them to connect me to someone that’s willing to buy shares of PHM at the price I’m willing to sell it. Then, we make a deal. (This deal is all done through your brokerage account through a simple set of instructions.)
The deal went something like this… First, I set my price. In PHM’s case, I was willing to sell shares at $50 – a slight premium to the price when I issued the trade alert. But the terms of this deal don’t last forever… In this case, my offer is good until April 30 — about 36 days from when I made the offer.
In return, the buyer pays me cash to seal the deal. (Think of it sort of like an earnest payment when you sell a house.)
There are several reasons why it makes sense to do this. The company may disappoint on earnings… the market sells off… anything, really. But the point is we get paid upfront for any “just in case” contingency.
This is why it works a lot like an insurance policy. Only in this case, I am acting as the insurance company. Although I wouldn’t mind it if PHM soared higher, I like getting paid upfront, too. So I’m willing to risk potentially missing out on a little bit of upside in order to collect an upfront premium.
That way, if anything happens, that income will protect me on the downside. (Think of it as lowering your cost basis.)
If the stock does go past $50 in the next month, I’ll sell the stock, but I get to keep the cash I collected. If the stock doesn’t climb to that price, I simply keep my payment and move on. And I can make a trade like this again and again…
In this particular case, PHM did move past $50. But as I said, that’s perfectly fine. Because we collected immediate income (and a quick return) in just a couple of days.
Now, some of you who are familiar with this strategy may be thinking that this sounds a lot like we used covered call options. And that’s because it’s exactly what we did.
My point in explaining the trade this way is to demystify options for those of you who may be a little intimidated by the word “options”.
You see, once you understand how strategies like this work, it will fundamentally change the way you think about earning income in the market. A lot of the so-called “experts” have a vested interest in making this sound too complex for an individual investor to understand.
But it doesn’t have to be that way.
That’s why I recently came out with a report that walks you through everything you need to know. By the time you’re done reading it, you’ll understand just how easy it is to use options like “insurance” – and get paid hundreds (or even thousands) with every single trade.