After yesterday’s close, IBM reported Q3 EPS of $2.40 versus $2.05 and said it expects to have full year results of at least $9.85 /share – up from 2008’s $8.93. You’d think that would have been received well but instead, the shares dropped by $6.34 (-4.95%) today to close at $121.64.
2009 will be the sixth consecutive year of improved EPS and Zacks sees another record on tap for 2010. They match the consensus view of about $10.75 /share in 2010. That puts IBM’s multiple at
Here are IBM’s per share numbers from the past few years as reported by Value Line:
While it’s unlikely that IBM will bounce back to the high teens multiples of 2002-2004 it does seem logical that 14x earnings might be the new normal as the economy gradually recovers. That would put my one-year target at about $150 /share. Standard and Poors sees things similarly with their 12-month goal of $147.
IBM gets S & P’s top, 5-star ranking and garners Value Line’s A++ financial strength rating along with 95th and 100th percentile marks for ‘stock price stability’ and ‘earnings predictability’(with 100th being best).
The dividend has been increased in each year since 1995 and the well covered $0.55 quarterly payout is now a 1.81% current yield.
The bottom line: After today’s drop IBM shares look to be 20 – 25% undervalued.
Here’s a way to play that can provide an even better return with a built in margin of safety that straight share ownership can’t offer.
If IBM merely remains above $120 /share on Jan. 21, 2011:
· The $120 call will be exercised.
· You will sell your shares for $12,000.
· The $120 put will expire worthless.
· You will likely have collected at least $275 in dividends.
· You will have no further option obligations.
· You will end up with no shares and $12,275 in cash.
That would be a best-case scenario profit of $2,831/$9,444 = 29.9%
achieved in 15 months on shares that did not have to move up at all from the trade inception price. That’s not a bad annualized rate on a conservative stock.
In a worst case scenario (where IBM finishes below $120 on expiration date):
· The $120 call will expire worthless.
· The $120 put will be exercised.
· You’ll need to buy another 100 shares of IBM.
· You’ll have to lay out an additional $12,000 in cash.
· You will likely have collected at least $275 in dividends.
· You will end up with 200 shares and $275 in cash.
What was that ‘margin of safety’ I was promising on this trade?
Here’s the breakdown:
You will have put out $21,169 total (after dividends) for the 200 IBM shares for
a net average cost of $105.85 /share.
That’s $15.79 /share under today’s closing price of $121.64. IBM could fall by as much as 12.9% without causing a loss on this trade.
Summary: IBM is a low-risk, high-quality issue that appears to be at least 20% undervalued based on even a partial rebound towards its historical valuation metrics.
The dividend is higher than typical and the P/E is among IBM’s lowest in 15 years.
Buying shares plus writing a January 2011 call and put at the $120 strike price will allow for almost a 30% total return over the next fifteen months while also protecting against up to a 12.9% share price decline.
If you leave both the shares and the options alone through the January 2011 expiration date you will not need to report any gains (or losses) until you file your 2011 tax year Schedule D in April 2012.
Disclosure: Author bought IBM shares and sold IBM puts today.
2009 will be the sixth consecutive year of improved EPS and Zacks sees another record on tap for 2010. They match the consensus view of about $10.75 /share in 2010. That puts IBM’s multiple at
Here are IBM’s per share numbers from the past few years as reported by Value Line:
Year | Sales | C/F | EPS | Div. | Avg. P/E | Avg. Yield |
2002 | 47.14 | 6.53 | 3.95 | 0.59 | 21.4x | 0.7% |
2003 | 52.60 | 7.27 | 4.34 | 0.63 | 19.6x | 0.7% |
2004 | 58.52 | 8.24 | 5.05 | 0.70 | 18.0x | 0.8% |
2005 | 57.90 | 8.71 | 5.22 | 0.78 | 16.1x | 0.9% |
2006 | 60.69 | 9.56 | 6.06 | 1.10 | 13.9x | 1.3% |
2007 | 71.31 | 11.28 | 7.18 | 1.50 | 14.8x | 1.4% |
2008 | 77.39 | 13.28 | 8.93 | 1.90 | 12.3x | 1.7% |
While it’s unlikely that IBM will bounce back to the high teens multiples of 2002-2004 it does seem logical that 14x earnings might be the new normal as the economy gradually recovers. That would put my one-year target at about $150 /share. Standard and Poors sees things similarly with their 12-month goal of $147.
IBM gets S & P’s top, 5-star ranking and garners Value Line’s A++ financial strength rating along with 95th and 100th percentile marks for ‘stock price stability’ and ‘earnings predictability’(with 100th being best).
The dividend has been increased in each year since 1995 and the well covered $0.55 quarterly payout is now a 1.81% current yield.
The bottom line: After today’s drop IBM shares look to be 20 – 25% undervalued.
Here’s a way to play that can provide an even better return with a built in margin of safety that straight share ownership can’t offer.
Cash Outlay | Cash Inflow | |
Buy 100 IBM @ $121.64 /share | $12,164 | |
Sell 1 Jan. 2011 $120 call @ $13.40 /sh. | $1,340 | |
Sell 1 Jan. 2011 $120 put @ $13.80 /sh. | $1,380 | |
Net Cash Out-of-Pocket | $9,444 |
If IBM merely remains above $120 /share on Jan. 21, 2011:
· The $120 call will be exercised.
· You will sell your shares for $12,000.
· The $120 put will expire worthless.
· You will likely have collected at least $275 in dividends.
· You will have no further option obligations.
· You will end up with no shares and $12,275 in cash.
That would be a best-case scenario profit of $2,831/$9,444 = 29.9%
achieved in 15 months on shares that did not have to move up at all from the trade inception price. That’s not a bad annualized rate on a conservative stock.
In a worst case scenario (where IBM finishes below $120 on expiration date):
· The $120 call will expire worthless.
· The $120 put will be exercised.
· You’ll need to buy another 100 shares of IBM.
· You’ll have to lay out an additional $12,000 in cash.
· You will likely have collected at least $275 in dividends.
· You will end up with 200 shares and $275 in cash.
What was that ‘margin of safety’ I was promising on this trade?
Here’s the breakdown:
Cash Outlays | Cash Inflows | IBM Shares | |
Original Cash Outlay | $9,444 | 100 | |
Cash for ‘Put’ Shares | $12,000 | 100 | |
Dividends Received | $275 | ||
Net Cash Outlay | $21,169 |
You will have put out $21,169 total (after dividends) for the 200 IBM shares for
a net average cost of $105.85 /share.
That’s $15.79 /share under today’s closing price of $121.64. IBM could fall by as much as 12.9% without causing a loss on this trade.
Summary: IBM is a low-risk, high-quality issue that appears to be at least 20% undervalued based on even a partial rebound towards its historical valuation metrics.
The dividend is higher than typical and the P/E is among IBM’s lowest in 15 years.
Buying shares plus writing a January 2011 call and put at the $120 strike price will allow for almost a 30% total return over the next fifteen months while also protecting against up to a 12.9% share price decline.
If you leave both the shares and the options alone through the January 2011 expiration date you will not need to report any gains (or losses) until you file your 2011 tax year Schedule D in April 2012.
Disclosure: Author bought IBM shares and sold IBM puts today.
