Options trades: Sold puts on NSC, PAA & NS

More market weakness this past week presented me with the opportunity to sell more put options on stocks I’d like to own at lower prices. As it turned out I ended up initiating only three new short put option positions (below), although many more of my limit orders to sell puts came very close to triggering late on Friday.

New positions:
Norfolk Southern [[NSC]] – On 1/29/10 I sold some January 2011 40-strike LEAPS put options against NSC in my IRA as the stock fell on market weakness:

nsc_012910t

This major U.S. railroad company operates in 22 eastern states, the District of Columbia and Ontario, Canada. Much of its revenue comes from transporting coal, so demand and pricing for this fossil fuel can significantly impact profits.

Its shares – currently trading at $47 and yielding 2.9% – barely remain in an intermediate-term uptrend after falling almost 15% in the last couple of weeks and are fast approaching oversold levels. A break below the $45-$46 level would suggest a more neutral/negative picture.

Current fair value estimates for NSC range from about $35 to over $65, with an average calculated fair value of about $45. NSC’s dividend history hasn’t been great – it cut its dividend in 2001 – but the company has consistently raised its dividend over the last six years at a pretty good clip (at a three-year growth rate of 25% according to DividendInvestor.com).

I don’t currently own any transportation stocks (although I am currently short some put options on Boeing), so I wouldn’t mind owning a railroad for some diversification. If I’m ultimately put the stock, my cost basis will be about $37, with a corresponding dividend yield of about 3.7%.

Nustar Energy L.P. [[NS]] – On 1/29/10 I sold some September 50-strike put options against NS as it fell on market weakness:

ns_012910t

NuStar Energy L.P. is one of the largest asphalt refiners and marketers and independent terminal and petroleum liquids pipeline operators in the United States. The units of this master limited partnership (MLP) remain in an intermediate-term uptrend but – like the market – are experiencing short-term weakness. A break below the $54-$55 level would suggest a more neutral/negative outlook.

Fundamentally NS appears to be roughly fairly valued here, although it – like most MLPs – could be seen to have more room to run based on the spread between the average current MLP distribution yield and that of 10-year Treasury bonds, which has traditionally averaged about 200 basis points (2%). Relative to other investment-grade MLPs, NS has a slightly-above-average current distribution yield of about 7.6%.

I’d be comfortable owning units of this MLP in the $47-$48 price range or below (with a corresponding distribution yield approaching 9%), which would be my cost basis if my short put options are assigned.

Plains All American Pipeline L.P. [[PAA]] – On 1/29/10 I sold some August 45-strike put options against PAA as it fell on market weakness:

paa_012910t

Another MLP (see Nustar Energy above), Plains All American Pipeline L.P. operates in the U.S. and Canada and is engaged in the transportation, storage, terminalling and marketing of crude oil, refined products and liquefied petroleum gas and other natural gas related petroleum products, as well as the operation of natural gas storage facilities.

Trading at $53 and yielding 6.9%, the units have been in a strong and sustained uptrend since bottoming in late 2008. While a short-term correction – as appears to have begun – is certainly to be expected, it would probably take a move below the $49-$50 level to change the intermediate-term picture to something less positive.

PAA appears to be roughly fairly valued here, and its distribution yield is on par with other investment-grade MLPs. I’d be happy to own some units of PAA below $45 (with a corresponding distribution yield of over 8%) if I’m ultimately assigned the put options I’ve shorted.

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