This Should Terrify Buy-and-Hold Investors
When looking for the best strategies in the current market, it helps to look back and examine how market action played out in the past.
For instance, let’s travel back in time to 1982, when the dividend yield on the S&P 500 was about 5.4% and the price-to-earnings (P/E) ratio was 7.7.
Stocks were cheap, but unemployment and inflation were high. Investors could ignore the stock market altogether and lock up yields of about 14% on 10-year Treasury bonds. But those who accepted the risk in the stock market did even better. Over the next 10 years, the S&P 500 delivered an average annual return of 17.9%, including dividends.
Obviously that’s a very different setup than what we have today, with pricey stocks and miniscule Treasury yields. But there’s still important information to be extracted from how markets performed over the next decade.
John Bogle, the legendary investor who created index funds, has a relatively simple formula for calculating expected returns. He found that the expected average annual return for stocks over a 10-year period can be estimated by adding the dividend yield, the expected growth rate of earnings and the expected change in the P/E ratio.
Bogle estimated average earnings growth of 4.7% a year, and we can use a long-term average P/E ratio of 15 to complete the calculation. With these numbers, we find that expected returns for the 10 years following 1982 would be about 17% a year. Actual returns were fairly close that forecast.
Based on Bogle’s formula, investors would have expected better returns from stocks even though Treasuries were offering extraordinarily high yields.
Fast forward to present day and any dreams of enjoying double-digit annual returns from a simple buy-and-hold strategy are quickly dashed. With a dividend yield of 2% and a slightly higher-than-average P/E ratio of 19, the broader market has an expected 10-year return of about 4.3% a year.
Obviously, lower returns have a large impact on wealth accumulation.
In 1982, based on Bogle’s model, an investor could expect $10,000 to grow to nearly $50,000 in 10 years. Now, the model tells investors to expect $10,000 to grow to $15,000 in 10 years.
Looking back at the large returns of the 1980s and 1990s and comparing them to today’s outlook, we see that outsized stock market returns have been relegated to the ash-heap of history. Investors now need to consider more active strategies to beat the market.
An Alternative Strategy That Yields Double-Digit Annual Returns
Since 2013, I have been using an alternative strategy to generate average annualized returns of 27% per trade.
I’ll be honest, this trading strategy may not be for you. Some may find it too far out of their comfort zone, but I’ve found it’s the perfect way to combat the low potential returns of this market.
And not only has it produced returns of 27% per trade, but since I started showing it to members of my Income Trader service in February 2013, 134 trades out of 140 closed trades have been winners. That’s a win rate of 96%.
My strategy involves options, which is a dirty word for many investors.
That’s because most options, over 80% by some estimates, expire worthless, meaning the option buyers are left with nothing.
But think about what that means for the option sellers for a second.
As an option seller, you’re selling something that more than likely is going to be worthless to the buyer in a few weeks, meaning you get chance to keep the cash they paid you, known as the option premium, without any further obligation.
You might be asking yourself, “Who would take the other side of this bet?” After all, someone is paying you for options that expire worthless the majority of the time.
The answer is simple: There are a lot of investors who make poor financial bets.
In Income Trader, when we sell a put option on a solid, profitable company, for example, we’re betting that it won’t fall to fire-sale prices. We get paid up front to make that bet and keep that money no matter what.
The worst thing that could happen is we’re forced to buy a company we like at a bargain price. This happens if the stock falls below the option’s strike.
As long as the stock is above the put’s strike price when the option expires, though, we keep the premium as 100% profit.
Let’s walk through a real-life put sale that my Income Trader subscribers just saw expire worthless on a company I know many people would be happy to own: Apple (NASDAQ: AAPL).
On Sept. 9, we sold a put on Apple with a $100 strike price for $54 per contract. Traders could have easily scaled up and made $108 by selling two contracts, $270 on five contracts or $540 on 10 contracts.
This option expired on Sept. 30, meaning we needed AAPL to close above $100 on that day. If it did not, we would be obligated to buy 100 shares per contract at $100 apiece — a 4.4% discount to where the shares were trading at the time.
To execute this trade, most brokers require a small margin deposit or “down payment” of about 20% of the potential obligation. In this case, our potential obligation was $10,000 ($100 x 100 shares) per contract, so our margin deposit was $2,000 (20% of $10,000).
On Sept. 30, AAPL closed above $100 and the option expired worthless. We kept the $54 as pure profit without having to do a thing, earning a 2.7% return on our $2,000 deposit in about three weeks. That works out to be a roughly 45% annualized return on one of the most profitable and widely traded companies out there.
Is Put Selling for You?
If you’re looking for quick triple-digit gains or hoping to turn a small bet in a hot, breakthrough stock into life-changing gains in one shot, my strategy probably isn’t for you.
But if you’re looking for a conservative way to make steady income in the market and beat the meager returns Bogle’s formula is predicting over the next 10 years, I think you owe it to yourself to at least explore this strategy a bit further.
I’ve put together an eight-minute training video that explains how I’ve used this strategy with a 96% win rate.
And if you want to begin receiving weekly put selling trades, complete with full instructions, you can sign up here at a 67% discount. We offer a 60-day, no-risk guarantee, so if you decide it’s not for you within the first two months, we’ll give you a full, 100% refund.