Occidental Petroleum (NYSE:OXY) recently reported $1 billion in free cash flow (FCF) for the last quarter, and this figure could potentially increase in Q3 due to rising oil prices. This makes the company appealing to both value-oriented investors and short sellers of out-of-the-money (OTM) put options, offering an additional income-generating strategy.
As of September 19, OXY stock is trading at $66.22 per share, showing relative stability over the past month.
FCF Potential for Recovery
It’s crucial to examine the recent history of OXY’s FCF to understand its potential for recovery, as illustrated in the table below. In the last two quarters, Occidental’s FCF has been lower than the levels seen in the previous year. For instance, while Q2 generated $1.005 billion in FCF before working capital, the company managed $4.176 billion in the same period last year.
A contributing factor is Occidental’s consistent increase in capital expenditure (capex) spending, with Q2 2023 seeing $1.646 billion in capex, compared to just $972 million in Q2 2022. However, with higher oil prices this quarter, there’s hope that Occidental could experience a substantial increase in adjusted FCF, particularly if capex spending remains steady. This bodes well for value investors in the stock.
Occidental Petroleum Stock Attractive Valuation
Currently, OXY stock trades at a price-to-earnings (P/E) ratio of 17.75x based on analysts’ average EPS forecast of $3.73 for 2023. Looking ahead, analysts predict EPS could rise to $5.09 per share, resulting in a forward P/E ratio of just 13x.
Comparatively, Morningstar reports an average forward P/E of 17.3x for the past five years. This suggests that OXY stock is undervalued compared to its historical valuation.
Furthermore, OXY offers a 1.09% dividend yield, adding to its attractiveness for income-seeking investors.
Exploring Short OTM Put Options
One income-generating strategy for OXY investors is selling short out-of-the-money (OTM) put options. This approach can be particularly beneficial for existing shareholders who wish to generate extra income while limiting their risk of selling their shares through short options plays.
For instance, examining the Sept. 29 put option chain expiring in 10 days reveals that the $64.00 strike price puts are trading at 31 cents. Short sellers of these puts can generate an additional 0.48% in income in less than two weeks until expiration.
However, it’s important to note that this strategy carries a risk. If OXY’s price falls to $64.00, the investor may be obligated to purchase more OXY shares at that price. To execute this trade, brokerage firms typically require investors to secure $6,400 in cash and/or margin, allowing for the purchase of 100 shares if the stock reaches the strike price.
Despite the potential risk, the investor retains the $31.00 in income generated from the short sale. If the investor were to repeat this OTM short-sale trade every two weeks for a year, the total income could amount to $806.00 or 12.6% of the $6,400 invested. It’s important to acknowledge that options premiums may fluctuate, but this approach underscores the appeal of shorting puts in the current market environment.
In conclusion, OXY stock presents an attractive opportunity due to its strong FCF and favorable valuation. Selling short OTM puts can be a sensible strategy for generating additional income while managing risk.
Featured Image: Unsplash @ Zachary Theodore
Author Faith Yakubu