It's an Opportune Time to Renew Your Vows With CVS Health

Last June I wrote favorably about CVS Health with the stock around $63 per share. I thought CVS would do well and advised setting up the following Jan. 15, 2021, expiration date $65 buy/write combination. Here were the best- and worst-case possibilities for that trade on June 20, 2020. Mid-January of this year saw CVS close at $74.08, well above the $65 threshold needed to ensure the most favorable result. The stock had risen by 15.7% and had earned $150 in dividends (three payouts of $50 each). There was nothing wrong with making 18% in total return over less than seven months. Traders who went with the full buy/write combination, though, ended up with 31.2%, about 72.7% more than outright buyers who failed to add the option components. Buy/writes work. They offer better than plain vanilla returns while also providing a degree of downside protection not afforded those who don't include option writing in their trading. In the example above, which is now over and done with, that extra margin of safety would have counteracted up to a 9.49% decline. CVS reported fourth-quarter results on Tuesday. Earnings per share came in above estimates, as did revenues. Trailing 12-month EPS totaled $7.51 (adjusted), an all-time record for CVS,which is a holding of Jim Cramer's Action Alerts PLUS charitable trust. The initial market reaction pushed CVS as high as $75.39 before the shares inexplicably sold off to as low as $70.18. That makes this a good time for previous buy/writers to renew their vows with CVS by setting up new combinations out to Jan. 20, 2023, using a more aggressive $80 strike price. The company's long-term numbers are quite good, as detailed next. Better still, the value created since the end of 2013 has not been even close to fully reflected in the stock price. A catch-up higher to arbitrage away that discrepancy appears way overdue. Few companies manage to earn A+ financial strength ratings while also coming in among the top 1% of all companies in terms of earnings predictability. CVS's low price growth persistence testifies to the stock's bargain-pricing after a few years of sideways action while fundamentals continued to improve. CVS is now offered for less than 10x last year's EPS while yielding over 2.8%. Those metrics both compare favorably with the company's 13.8x average multiple and 1.87% typical yield. A simple regression-to-the-mean valuation would easily justify a 12-month goal price north of $100. That price target is not farfetched. CVS topped out between $98.60 and $113.60 during each of the three years from 2014 through 2016. Sales, cash flow, earnings, book value and dividends are all higher now than during any of those years. Setting up that Jan. 2023 $80 buy write would have looked like this with CVS at $70.92. I have little doubt that CVS will exceed $80 by expiration day almost two years out. If so, the best-case scenario detailed below would be in effect. Any minimum upturn of 12.8% or better would translate into an outstanding 85.9% total return, assuming no dividend increases. Outright purchasers of CVS at $70.92 would need to see it rise to about $131 to do as well percentage wise. What if CVS disappoints and fails to be above $80 on Jan. 20, 2023? In that case, combination writers would end up with double-sized positions, but at a very attractive net average cost of just $60.71 per share. Any decline of less than 14.3% from the trade inception price would still allow for immediate liquidation for at least a small gain. I'm not alone in seeing the value proposition in CVS Health. Morningstar rates it as a 4-star, out of 5, buy. They see its present-day fair value as $92. Yahoo Finance looks for CVS to hit $85.22 by this time next winter, generating almost 24% in total return. Morningstar Given another full year to grow revenues, EPS and dividends, CVS is quite likely to be worth way more than $85 to $92 by January 2023, when the new buy/write is due to expire. Where else can you confidently expect to earn nearly 45% annualized over the coming couple years? I've been actively adding to CVS on this week's undeserved sell-off.

It's an Opportune Time to Renew Your Vows With CVS Health

The pharmacy giant offered a great buy/write options play last summer and is setting up again for such action.

Columnist Conversation

Huge insider buying in Designer Brands (DBI)

Stocks: The Place to Have Been in 2021 YTD. We're Just Days Away From Very Positive Seasonality, Too

This Weekend on Real Money

COLUMNIST TWEETS

Please Join or Log In to manage and receive alerts.