Profiting from dividends with options

Dividend stocks often outperform the market, and stocks that distribute dividends regularly are usually considered safer. In a comprehensive study done for the years 1928-2013, we can clearly see that dividend stocks outperform the market:

The following chart is from Mebane Faber’s book “Shareholder Yield,” and it shows that dividends are responsible for the majority of the stock performance for both cheap and expensive stocks:

So, We can see that regular dividends are bullish and that they contribute the majority of the real return of stocks; there is one more mechanism to understand about options when trading options – The stock adjustment:

When stocks distribute a dividend (during the Ex-date), the price is adjusted, but the option price usually doesn’t. For example, if stock XYZ price is $100.01 and it distributes a 5$ dividend:

• The Adjusted stock price will be $95.01.
• This means that Call Strike 100 is suddenly out of money and
• Put strike 100 is suddenly in the money.

If we connect these two facts, we can see that the put options’ price should rise after the Ex-date, and the call options’ price should decrease. This means we could profit from strategies like covered calls or married puts – strategies that are bullish and will profit from the expected price movement.

Tips on trading options on dividend stocks

• Use bullish strategies – A covered call is usually best suited for this.
• Look for options 2 weeks to 6 weeks from expiration (usually have more premiums).
• If you set up a new position – prefer At-The-Money options (or In-the-money)
• Premium should be equal to the dividend since there is a high probability you’ll be assigned before the ex-date (the option buyer doesn’t want to miss the dividend). This is a good outcome since you’ll receive the premium for a shorter time frame.
• Use OTM options if you want to hold the position for the long term and on a lower-cost basis (example).
• Read more about The Edge in Dividends investing.

How can Samurai’s Options Scanner help you?

• Use dividend capture screen: We developed a dividend capture screen for covered calls and married puts (buy stocks + protective puts); you can find the best trades in 1 click or edit the trades manually. Read more about How to find dividend capture opportunities.
• Custom scan with dividend yield: You can scan all strategies (not just covered calls or married puts) and use the dividend yield scanner to filter results with a certain dividend yield:

• Custom scan with payout ratio: You can also scan for a payout ratio in order to verify that the dividend is sustainable or reverse the scan and look for a high dividend yield with an extremely high payout ratio – hinting at the fact that the dividends might not be sustainable. You can add the payout ratio scanner similar to the dividend yield scanner above.

• See only trades with ex-date before expiration: You can scan for trades where the Ex-date is only before the expiration, and thus make sure you gain exposure to the dividend event:

Summary and key takeaways

1. Dividends are a bullish trigger – Research shows dividend stocks outperform the market, so we should usually look for bullish trades. We can see an out-performance of 0.77%-3.33%.
2. Option strike doesn’t re-adjust on Ex-date – We can profit from this – especially with selling calls and buying puts.
3. The easiest way to profit from dividends stocks during the dividend Ex-date would be covered calls or married puts: These are bullish strategies that will profit from the fact that the strike doesn’t adjust during the Ex-date.
4. You can use the dividend capture predefined screen to find trades quickly or use the custom scanners to find your own trades.