Generate 24% Annual Income With This Internet Toll Keeper

StreetAuthority Network

In most places, swallowing microchips and wearing sensors to monitor back posture wouldn't be cool. But the annual International Consumer Electronics Show isn't most places.

It's more like an episode of "Star Trek" -- fueled by a couple trillion dollars and 100,000 mad scientists.

The annual Consumer Electronics Show in Las Vegas is the Super Bowl for the technology industry. As the hottest industry event of the year, CES is the place where tech's biggest brands and boldest startups come to show off.

That makes the event a window into the mind of the technology industry. And with all the hottest products and ideas on display, it's also a great way to see where the tech industry is making its biggest investments.

Some of the products at this year's CES will be rock stars, and others will fail -- but across the board, the biggest and best ideas coming out of tech all have one thing in common: the ability to send and receive data.

Consumer and commercial devices are getting smarter. They are also becoming more connected to the Internet and increasingly networked with other devices. 

That has led to huge increases in data consumption, particularly mobile. Mobile users in the U.S. doubled their data consumption in 2013 to an average of 1.2 GB per month, according to industry consultant Chetan Sharma. Networking giant Cisco Systems (Nasdaq: CSCO) predicts that data consumption on mobile will exceed data consumption on fixed-line PCs by 2016.

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But the mobile market can be fickle. Companies such as BlackBerry and Nokia are good examples of how quickly fortunes can turn for mobile handset makers. That's why I like to invest in the Big Data and mobile boom with a company that isn't affected by which manufacturer has the hot hand.

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The company is the ultimate toll keeper on the information highway. Regardless of the platform or device, when data is consumed, this company gets paid. That steady stream of income supports one of the industry's biggest dividends while also providing a wide competitive moat.

Verizon (NYSE: VZ) is the undisputed leader in the domestic mobile market. The company boasts more than 100 million mobile subscribers. It also has more than 20 million fixed-line customers and 9 million broadband subscribers. When you add it all together, Verizon's massive network is pumping out crazy amounts of data to a loyal subscriber base approaching 130 million -- equal to nearly half the entire population of the U.S.

That makes Verizon the toll keeper of America's information highway and a great way to cash in on the surging demand for data. Because even though Verizon is already a clear market leader, with industry-leading market share and margins, the company is in position to keep growing.

First of all, Verizon benefits from huge barriers to entrance, something Warren Buffett always looks for in his investments. Think about the cost involved in building a national fiber-optic network stretching from Maine to California. Not only is that expensive, it also comes with huge regulatory burdens. The bottom line on Verizon's moat is that it could hardly be any bigger.

 

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  Flickr/indi.ca  
  In a deal valued at $130 billion, Verizon agreed to buy Vodafone's 45% stake in Verizon Wireless, Verizon's mobile subsidiary. This will allow Verizon to make bigger investments in its mobile network.  

Verizon is using its market-leading status to secure its supremacy in the next wave of mobile technology: 4G. Verizon has already completed the rollout of its 4G network, available in 500 cities to more than 300 million people at the end of the third quarter.

The rollout accomplishes two key goals for Verizon: increasing revenue by upselling its huge 3G user base to faster (and higher-priced) data services, and expanding its profit margins with better operating and network efficiencies. I'm looking for Verizon's industry-leading 4G rollout to create more buzz and revenue growth through all of 2014 as the company makes a big push to upsell its 3G base.

Verizon just cut a deal with Vodafone that will enable it to fully capture the earnings power of its mobile division. In a deal valued at $130 billion, Verizon agreed to buy Vodafone's 45% stake in Verizon Wireless, Verizon's mobile subsidiary. Full ownership of Verizon Wireless will allow Verizon to make bigger investments in its mobile network and unlock the true value of the company. It also gave Verizon a user base of more than 100 million mobile subscribers.

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With a dividend yield of 4.3%, Verizon is a great stock for income investors. I also like Verizon because its shares are a bargain. Verizon is on pace to produce earnings of about $3 per share in fiscal 2013 and $3.50 in 2014. That gives the company a forward price-to-earnings (P/E) ratio of 14, which is a discount to its 10-year and peer averages of 15.

Verizon's combination of yield and value is uncommon. From the S&P 500, only 11 stocks can beat its combination of dividend yield and P/E:

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The Options Play
In spite of all the good news, Verizon has been a bit weak on the chart. Shares are down 4% in the past six months while the S&P 500 has been rallying. That makes me confident this is a short-term setback for Verizon and that shares are in position to rally on strong fundamentals and recouple with the broader market. 

And I'm going to capitalize without buying a single share.

On Wednesday, Verizon closed at $48.25. This week, I recommend selling VZ Feb 43 puts for $0.20.

Selling these puts will generate instant income of $20 that will be deposited directly into your brokerage account. It also obligates us to buy shares at $43 should Verizon fall below that level on Feb. 22, when the options we sold expire. But the chances of that happening are slim: I estimate there is a 98% chance our options will expire worthless.

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That is also consistent with my goal to target high-probability options trades that expire in 45 to 60 days that are also trading within 10% to 15% of being in the money. Short expirations and strike prices relatively close to the money reduce the value of the risk premium we collect for selling puts, but it also has me focused on very high-probability trades with win rates frequently topping 90%.

Action to Take -- > Being put 100 shares of Verizon at a strike price of $43 would require a $4,300 investment. But to initiate this trade, I won't need the full amount. Most brokerage firms require a 20% deposit to control the position. That puts my margin deposit for the Verizon trade at $860.

Here's how the trade looks if the options expire worthless (which has an amazing 98% chance of happening). A potential 2.3% return in just 37 days compounds out to a potential 24% gain in 12 months, without buying a single share of Verizon.

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Here's how the trade looks if we are put shares:

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