Friday, July 6, 2012

CTL: A stock that looks like a junk bond

CenturyLink Inc. (CTL) is the third-largest telcom company in the U.S., following AT&T and Verizon. It has been on a buying spree for several years and took a leap to hugeness last year when it bought competitor Qwest.

CTL was picked by Zacks Investment Research as the growth and income stock of the day. It was named today in a newsletter available to the public as well as to premium subscribers like me. Read the Zacks report here. (I haven't read it yet so my own analysis can be independent.)

For CTL, the emphasis is on income. It pays a stunning quarterly dividend yielding 7.38% annualized. The stock last went ex-dividend on June 1, so I'm expecting the next ex-div dat eto be Sept. 1.

The chart reflects the magnitude of the dividend. When ex-dividend day comes about, no matter what CTL's trend might be at the time, the price drops precipitously to account for the payout. Most recently, on ex-div day June 1, the price opened down 3.1% from the prior day's close.

So like any high-dividend play, CTL provides something of a roller-coaster ride for traders, and makes the chart a bit messy to analyze.

But analyze we shall, beginning with the six-month daily chart.

CTL peaked at $40.54 on Feb. 29 and that day began a slide down to $36.91 on June 5. There were several ex-dividend dates in that period, but they didn't cause the trend.

Since early June the stock has begun to rise again, hitting a swing high of $39.82 on July 3. The area near $39.50 has provided resistance four times since March. This week was the fourth time. The price has since retreated from the high down to a low today (so far) of $39.02.

My trading decision depends upon what level I focus on. The trend has sideways characteristics, with one major breakdown fueled by the high dividend, in the period beginning in March. The rise from early June remains an uptrend, with two higher highs and two higher lows as reversal points.

In summation, the chart shows an uptrend that has just hit the ceiling of a larger sideways trend. So my decision comes down to whether the price will move above the swing high of $39.82. From that point -- the very near term -- CTL is in the second day of a downtrend, but today's price is up since the open and has retreated sharply from a morning low that in turn reversed while above yesterday's low.

For the very near term, I would call CTL's pattern as either a renewed uptrend or a triangle. I'll have to wait and see. It is notable, I think, to see the price moving counter to the overall market, which has been down for the day by 1% or so as of this writing (about 1 p.m. Eastern).

My analyst enthusiasm index stands at 39%, unchanged from a month earlier, suggesting that there's room for brokerages to jump in with positive assessments of this stock. The index gives positive weight to strong buy recommendations, negative to holds and sells, and ignores buys.

CenturyLink has return on equity of 4%, with long-term debt amounting 111% of equity. It is a company with small return that owes a lot of money, not the most comfortable of positions for a business or a household.

Earnings for the most recent quarter reversed a three-quarter slide. The company has been profitable the past 11 quarters, with six upside earnings surprises and five to the downside.

The most recent quarterly earnings per share is 13% lower than the comparable quarter a year earlier. This is not a company with accelerating earnings by any stretch of the imagination.

Institutions own 69% of shares, and the price is near parity. It takes $1.34 in shares to control a dollar in sales.

CTL on average trades 4.2 million shares a day, sufficient to provide a good selection of option strike prices with high open interest and narrow bid/ask spreads.

Implied volatility stands at 18%, in the lower half of the six-month range. It has been trending sideways since March, fluctuating between 23% and 18%.

Options are pricing in confidence that 68.2% of trades will fall between $37.38 and $41.54 over the next month, for a maximum gain or loss of 5%. That's a fairly low level of volatility, by the way. In my opinion, CTL is behaving more like a perpetual junk bond than a stock.

The stock is trading within the five-day fair-price range, which encompasses 68.2% (one standard deviation) of trades placed in that period surrounding the most traded price, $39.44. The range runs from $39.16 to $39.73.

CenturyLink next publishes earnings on July 30. And, as I discussed above, the stock will most likely go ex-dividend on Sept. 1 for a quarterly payout yielding 7.36% annualized.

Decision for my account: Because of the high dividend, I need to play CTL as a stock so I can get the dividend. Yet I still want to be able to hedge the position against loss.


The way to do this is to buy the shares and then sell calls against them -- a covered call position. 


The math works like this: 1) Buy the shares for $39.40 or so, 2) Sell the $39 strike call option expiring in August for $1.00, lower the basis to $38.40. 3) In mid-August, sell another call that expires in September, and even if the stock hasn't moved, the basis has gone down to $37.40, for a 5% gain.   4) Harvest the quarterly dividend, which lowers the basis by another 73 cents, for a total gain of 7.4% in two months, or 44% annualized.


That's all very theoretical, of course. The price will move. The covered call might be assigned if the stock price rises, most likely in the weeks approaching the ex-dividend date. So there are always complications with this sort of strategy.


The cautious stock trader will wait for the price to break above $39.75 as confirmation that the uptrend is still in place, or alternatively, will wait for a turn while the price is above $38 in order to catch the next upward swing.


The covered call trader might want to buy now in the hope that the stock price will go down, helping to protect the position from early assignment.


The really cautious covered call trader will sell out-of-the money calls, reducing the profit but also reducing the likelihood of assignment and enhancing the chance for capital gains.


The awesomely cautious trader will sell the August call but skip the September, thereby hoping to avoid assignment, and then resume selling calls after the ex-dividend date.


I'm going to wait and see what the price does.




Disclaimer
Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decision decisions for his or her own account, and take responsibility for the consequences.

No comments:

Post a Comment