Quote from: mizzourah2006 on August 18, 2023, 02:39:30 PM
Here are two thoughts I have had that get around a dividend portfolio, but still would allow you to generate income in a similar manner.A. This is what I have been playing around with lately with about $140k. 1. I request access to a margin account. 2. Invest the money into VUSXX. 3. Use the margin to write an amount equal to the cash in VUSXX in puts that are out of the money. 4. Collect monthly income from VUSXX and monthly/weekly income from the puts.
As an example. If you had ~$250k. $250k would generate about $1,052/month in income from VUSXX. Then you could write 6 monthly SPY puts on margin ~7% below current market value and generate another ~$750, so that $250k would generate $1,800/month in income if you were fine writing puts that were only 3-4% below the market you could double that to $1,500/month, which would bring your monthly total to $2,500. Obviously if the market plummets more than 7% you need to liquidate your position in VUSXX to take ownership of the 600 shares of SPY, but you could also look at it as getting a 7% discount on getting into the S&P 500 and turn around and do B.
See AlsoDividend Investing | Investors AlleyInvestors Alley Review – Scam Or Legit Investing Services?Investors Alley Review - Scam Or Legit? - BEASTPRENEURPremium Newsletters | Investors AlleyB. Just write weekly or monthly calls on SPY that are basically close to being in the money. If I take those same 600 SPY shares and write 6 Sept 15th $445 covered calls it would generate $2,130/month (assuming today's market price).
The more money you do this with the more conservative you can be in generating a solid income. In scenario B while you own the 600 shares you'd also generate about $1k/quarter in dividends.
It has it's potential downsides with large market shifts, but you're also trading a portfolio of low growth names paying out 3-4% dividends for a pretty reasonable return of 8-10% in today's environment. I'd never take my entire portfolio and do this, but I'm definitely toying with the idea of doing it with 20-25% eventually.
This is an intriguing idea but with high interest rates come high margin rates too. Let's not forget to account for them:
Margin and Trade Facts
The margin requirement for the short put is the greatest of:
20% of the underlying price minus the out-of-money amount plus the option premium
10% of the strike price plus the option premium, or
$2.50
For a SPY short put at the 406 strike (~7% below today's 436.50 price) you'd have received about 1.20 at the end of today. So the margin requirement would be the greatest of:
(0.2*436.50)-30.56+1.2 = 57.94
(0.1*406)+1.2 = 41.8
2.50
Margin rates at some top brokerages for a 140k trade are currently
TD Ameritrade: 13%
Etrade: 12.7%
Vanguard: 12.25%
The Math
So for a trade like this with 28 days till expiration, you'd pay 28/365= 7.67% of the annual margin rate. That would amount to about 1% for a 28 day loan at TDA. If VUSXX is paying an annualized 5.45% yield, that would be about 5.45%*7.67%= 0.42%. So you're borrowing at more than twice the rate you're receiving.
BUT... you don't have to borrow the entire price of SPY, only the margin requirement. As we found above, the *initial* margin requirement would be only $57.94 per share.
So you borrow $57.94 per share to support the trade and therefore must pay about 0.58 per share in interest over 28d. Meanwhile, you have the full $406 strike price plus $1.20 worth of cash sitting in VUSXX earning 0.42% over 28d, so you get paid 407.20*0.42%= $1.70.
The difference in interest received versus paid is a positive $1.12 per share, 0.276% of your $406 per share investment over 28 days, which is 3.6% annualized. Now we can add in the $1.20 put premium, which is about 0.3% of your $406 per share investment over 28 days, or 3.84% annualized.
Your total annualized ROI if you are not assigned is the sum of the net interest yield and the put premium yield, which in annualized terms is 3.6%+3.84%= 7.44%. Assuming you hold the entire 28 days, you lose money if SPY falls below 406-1.12-1.20= 403.68, which is 8.1% below today's price.
Evaluation
The 7.44% annualized best-case return is about 2% over the risk-free yield of VUSXX or SGOV. In exchange you get exposure to the full downside of the S&P500 beyond the first 8.1%. Is that worth it? Maybe it depends on your risk tolerance.
Corrections like this within a 28 day period can and do happen, and that first 8.1% loss can happen in the context of a much longer slide so you don't dig out by selling an in-the-money call the following month. The overall graph of possibilities looks a lot like a covered call. Your upside is limited to +7.44% and your downside is unlimited.
Coincidentally, that's a good way to look at dividend stocks. They're not going to rise quickly and they have a lot of downside. This strategy gives away upside potential for shorter-term cash flows, just as a high dividend stock does.
Interactive Brokers has a much lower 7.83% margin rate right now. I re-ran the math and doing this strategy through them would bump up the best case return by 0.7% annualized to 8.14%. That's about 2.69% higher than the risk-free yield of VUSXX, but again you take on the entire risk of the stock market for that 2.69%.
We can compare this strategy with simply selling a covered call at the $406 strike for the mid price of $33.15, since the strategies have a similar payout function. If SPY didn't fall below $406, you'd receive 406+33.15=439.15 per share, which reflects $2.65 of time value that you harvest with a 436.50-33.15=403.35 per share investment. That works out to an 8.54% annualized return over 28 days. Of course, you only get a positive return if SPY doesn't fall farther than 406-33.15=372.85, a 14.6% drop. Returns could be better than this if you hold SPY through an ex-dividend date and receive a 0.34% quarterly dividend, but that would affect option pricing so we'll ignore the possibility for now.
In conclusion, the ITM covered call strategy at the same strike price can yield more and has a bigger safety margin than the VUSXX+SPY short puts approach.
