Discover also has an upcoming ex-dividend date on May 24th (8 days from today) at $.70 per share (2.9% annual dividend yield), so this is included in the potential return-on-investment results detailed below. This Covered Calls position is consistent with my preference when my Overall Market Meter viewpoint is Slightly Bearish to establish in-the-money Covered Calls in low-growth sectors (such as this one in the Financials sector) using my Dividend Capture Strategy. With this strategy it is possible to achieve an attractive annualized return-on-investment result if either the position is assigned on the options expiration date or if it is assigned early (normally on the day prior to the ex-dividend date). Also, because of the volatility immediately after quarterly earnings reports are released, it is preferred that there be no quarterly earnings report prior to the options expiration date, and this is true for this Discover Financial position since the next earnings report is not until July 19th, 2023. The approximate probability of assignment was 77.6% when this position was established.
Discover's business is in digital banking (including the Discover brand credit cards) and payment services. In their recent Q1 2023 EPS report, they missed analysts' estimates by 8.4%. Their positive loan growth and net interest margin trends were offset by sharply higher loan loss provisioning. As a result, their stock has declined by 9.0% since their earnings release. Three sources for my optimism that this price decline is a short-term overreaction are: (1) their estimated FY 2023 P/E ratio is only 7.2 which is well below their prior 5-year average of P/E of 10.9; and (2) their $.70 per share quarterly dividend rate is a 16.7% increase compared with the same quarter last year; and (3) they are continuing their aggressive buyback program of the past 5 years by announcing a $2.7 billion buyback authority by the end of June 2024 which is 11.2% of their current shares outstanding. Finally, the twenty analysts' that cover Discover have an average target price of $116.44 (+21.7% above today's purchase price.
Two potential return-on-investment results are as follows: (a) +0.9% absolute return-on-investment (equivalent to +40.1% annualized roi) for 8 days if this Covered Calls position is assigned early on May 23rd, 2023 (the last business day prior to the May 24th ex-dividend date); OR (b) +1.7% absolute return-on-investment (equivalent to +33.6% annualized roi) for 18 days if this Covered Calls position is in-the-money on the June 2nd, 2023 weekly options expiration date.
Discover Financial Services (DFS) -- New Covered Calls Position Established
The simultaneous buy/write transaction was as follows:
5/16/2023 Bought 300 shares of Discover Financial Services @ $95.69 per share; and
5/16/2023 Sold 3 DFS June 2nd, 2023 $91.00 Call options @ $5.49 per share. The Implied Volatility of these Calls was 28.7 when this position was established.
5/24/2023 Ex-dividend of $.70 per share
Two possible overall performance results (including commissions) would be as follows:
Covered Calls Cost Basis: $27,062.01
= ($95.69 - $5.49) * 300 shares + $2.01 commission
Net Profit Components:
(a) Options Income: +$1,644.99
= ($5.49 * 300 shares) - $1.34 commission
(b) Dividend Income (If option exercised early on the last business day prior to the ex-div date): +$0.00; or
(b) Dividend Income (If DFS shares assigned at the June 2nd, 2023 expiration): +$210.00
= ($.70 dividend per share x 300 shares)
(c) Capital Appreciation (If Discover shares assigned early): -$1,407.00
+($91.00 strike price - $95.69 stock purchase cost) * 300 shares; or
(c) Capital Appreciation (If DFS shares assigned at $91.00 strike price at options expiration): -$1,407.00
+($91.00 - $95.69) * 300 shares
Either outcome would provide a very good return-on-investment result. These returns will be achieved as long as the stock is above the $91.00 strike price at assignment. If the stock declines below the strike price, the breakeven price of $89.50 ($95.69 -$5.49 -$.70) provides 6.5% downside protection below today's purchase price.
The Covered Calls Advisor has established a set of nine criteria to evaluate potential Covered Calls using a dividend capture strategy. The minimum threshold desired to establish a position is that at least eight of these nine criteria must be achieved. As shown in the table below, all nine criteria are achieved for this Discover Financial Services Covered Calls position.
