Make Your Investment Dollars Work Harder For You
Income investors know about efficiency. They know that income comes from two sources: First, by making their money work as hard as it can and second, reduce commissions and taxes to their lowest possible level.
In the case of the latter, it’s a little more straightforward. Reduce your tax liability by holding on to our positions for at least one year and for long term investors, attempt to minimize your dividend payouts in your taxable accounts. For those with taxable brokerage accounts meant for long term growth, contributing the maximum to a traditional IRA and using that account for dividend names is worth considering.
Reducing expenses is easy compared to maximizing the work load of your money. Think of this illustration. A farmer who has 1,000 acres of land buys a high dollar tractor which will allow him to decrease the amount of workers he has to hire. That’s sounds like a great use of capital but what if he only used his new tractor on 500 of his 1,000 acres? Sounds a bit absurd, doesn’t it? It is, but investors do it with their money every day.
Here’s one example. If you have 100 shares of stock in a high volume, relatively low volatility company, you should be selling covered calls from time to time. There are plenty of articles explaining how covered calls work so we won’t dive too deeply in to the mechanics but if you have a stock that is currently towards the top of its range, consider selling a covered call against your 100 shares.
Let’s say that the stock is currently at $45 and that’s the high end of where it has traded. Why not sell a covered call with a strike price of $47? The worst case scenario is that by expiration the stock is above $47 and you are forced to sell the stock at $47. You made $200 plus the premium you collected when you sold the call. You could always buy the stock back or purchase another 100 shares if the stock goes significantly above the strike price.
Covered call options are a more complicated than simple stock buying but it pays to take the time to learn how they work. You won’t make extra money every month but even after paying short term capital gains taxes on the premium you collected, it’s still more money than what you had.
Another way to maximize gains, besides dividends, is to ask your broker if they have a program where they use your shares for lending to short sellers. Often, you will receive 20% to 50% of the lending fee and in most cases you’re not impacted in any way as long as you plan to hold the stock long term.
Income investors shouldn’t use dividends as their sole source of revenue. There are other strategies that can be used to produce income with various degrees of risk. Of course it’s always advisable to have a paper account where you can practice these strategies before putting real money to work.