Energy has been one of the hottest sectors of the S&P 500 Index (SPX) lately, but oil & gas stocks have pulled back more recently – creating what I see as the next big buying opportunity in the sector.
In fact, as you can see below, energy has been the best-performing sector in the S&P 500 by far over the past two and a half years, up more than 69% for the period.
That leaves the next-best performing sector – everybody’s favorite – technology (up 28.8% since 2022) choking on energy’s fumes.
“Stuff” stocks, those that produce commodities like oil and electricity, are back in favor these days. It’s no surprise with stubbornly high inflation: If you haven’t been hit by higher prices at the pump (or surging power bills), just take a look at the prices of gold, silver, and even copper stocks recently and you’ll see what I mean.
And in my last column, I revealed the catalyst for energy’s big comeback:
Domestic oil production has been overstated by the U.S. Energy Information Administration (EIA) since it changed its reporting methodology last year. But markets take the EIA numbers at face value, believing that production growth has been much higher than it really is.
That creates the potential for negative surprises going forward, when U.S. oil production inevitably falls short of expectations.
And when that happens, the price of oil and energy stocks will spike higher.
Plus, seasonality and our own TradeSmith indicators also point to big upside potential for energy stocks. The question is, what’s the best way to profit?
How to Buy the Best Energy Stocks and Get Paid to Do It
You can always buy a basket of quality energy stocks with the help of the TradeSmith Finance Screener tools, as I pointed out on Tuesday.
But for my money, there’s an even better way to buy these stocks – by getting paid instant income to do it. It’s called a buy-write covered call trade. And in many ways, it’s even better than just paying the retail price for a stock.
It’s a lower-risk trade that gives you upside appreciation potential and pays you cash income upfront. Lower risk, upside gains, and income, what’s not to like?
Here’s how it works:
A buy-write is easy to use. You simply buy a stock you want to own, and at the same time sell – or write – a covered call option on the same stock.
It’s a great way to earn some extra income, but it’s also a lower-risk alternative to buying the stock outright.
Most online brokers will let you make this trade in a single transaction. It’s a great strategy to help boost your income while lowering your risk at the same time.
That’s because the premium you earn by selling the covered call option puts immediate income in your brokerage account and lowers your cost basis for your stock purchase.
However, it’s important to understand that you can only sell one call option contract for every 100 shares of the stock that you buy. (Remember, one option contract always “controls” or represents 100 shares of the underlying stock.)
By using our exclusive Options360 tools, you can generate a list of the best buy-write trade ideas on a daily basis. Here’s how to use it:
If you’re a TradeSmith Essentials, Options360, or Platinum member, you should already have full access to these tools and can start earning cash income with this buy-write strategy immediately. (And if you don’t see these tools in your TradeSmith Finance dashboard — and would like to — call 888-623-0858 to learn more.)
Log in to your TradeSmith Finance account and click Options in the top menu bar, then click the Options Screener tab, then click on + Create new screener.
For this screener, we’re interested in Energy stocks specifically. But you can use this same method to find buy-write ideas for a variety of stocks in other sectors as well.
Here are the filters I used, but remember you can make this screener your own by adding even more filters, indicators, or TradeSmith strategies into the mix.
So first, for the Underlying Asset Filters, click on + Manage Filters and select Sector, then click on Energy from the dropdown menu. Also, I’m looking for high-quality energy stocks to buy, so click on Business Quality Score and enter more than 70. (Note that the BQS is part of Ratings by TradeSmith.)
Now, for Options Filters, click on Options Strategies and select Buy/Write Covered Calls. For Days to Expiration, I chose less than 30, but you can select any time frame you want.
Finally, under Display & Sort Results click on the drop-down menu boxes to show the top 20 results sorted by Max Profit – then Run Screener.
I got 20 results from this search, but due to space limits, here are the top four:
Hess Corp. (HES) jumps out at me right away because it has the highest Max Profit at $427. Everything you need to know to place the trade with your broker is shown here.
Buy 100 Shares of HES & Sell HES $155.00 Call expiring 24 May 2024
The other Options360 stats on this trade you should consider carefully are:
- Probability of profit (if assigned) is 92%. Nice odds.
- That’s an annualized ROI (return on investment) of 516.49%.
- Total cost basis (C/B) is the cost to purchase 100 shares of Hess (currently at $150.88), plus the $15 cash you get back from the call option premium, so your cost is only $15,073 – or $150.73 a share.
And click on the Trade Summary icon, which you’ll find at the bottom-right of each trade tile, to get even more details to help you evaluate the trade.
To sum up, this trade has a high (92%) probability of being assigned, meaning the stock would close above the option strike price by expiration and your shares would be called away – sold at the agreed-upon strike price.
If that happens, you would earn a quick profit of $427 ($15 call option premium + $412 upside price appreciation in HES stock), based on the prices available as I write this.
That’s an annualized ROI of 516.49% if you could place a buy-write covered call trade like this one every week.
Mike Burnick’s Bottom Line: Using our TradeSmith Screener tools, you can uncover stocks with excellent long-term profit potential in any market sector you’d like. And if you’re more interested in quick income-generating trades, you can add to that by finding buy-write covered call option trades with our tools. Or you can do both.
Good investing,
Mike Burnick
Senior Analyst, TradeSmith