A MOTLEY FOOL PRO SPECIAL REPORT

2 EASY INCOME PLAYS FOR 2012

By Jeff Fischer, Advisor, Motley Fool Pro

PROS HIGH YIELD HANDBOOK

Heres your second installment of Investing like a PRO...

PROs High Yield Handbook:

2 Easy Income Plays for 2012

Dear Fellow Investor, If youre like me, youve probably grown more and more concerned in the last year about the economy And of course the gridlock in Washington and the ongoing crisis in Europe. Its a troubled world, and the future is less certain than we might prefer. Thats why Im urging you to consider the following report. It features two valuable and sophisticated income strategies you can use today, and again and again in 2012 And as youll soon discover, the second strategy has already generated safe, predictable returns of 54% in just three years. How did we do it? According to Motley Fool PRO Advisor Jeff Fischer: Too many investors ignore dividends, let alone simple options strategies to generate income. Perhaps these people think these strategies cant add up to real money. But let me assure you: They make all the difference. So if youre looking for simple ways to pile up real money, Jeffs invitation-only service, Motley Fool PRO, may be the solution youve been waiting for In fact, on Tuesday morning, January 24, Jeff and the PRO team will open Motley Fool PRO to new members for a very brief time. So stay tuned! Theyll also reveal their brand-new absolute returns strategy. Which gives you the best chance to make substantial gains, year after year, while taking on only minimal risk. Be sure to watch your inbox for your invitation, along with your final installment of Investing like a PRO: Your Primer for Earning 10% a Year, Every Year, and Not Losing a Dime. To your wealth in 2012 and beyond,

Matthew Argersinger Executive Publisher, The Motley Fool

Motley Fool PRO

Investing like a PRO

pro.fool.com

Introduction: Lets Talk Income

ews Flash: Stocks have been flat for 13 years! Since 1999, the S&P 500 index is unchanged. It traded around 1,300 in 1999. It trades there right now.

Thats 13 years a sobering 17% of the average American mans lifespan! where the index that holds the 500 strongest, most popular companies in the world went absolutely nowhere. And the problem is, there are good reasons to believe the coming years wont be much better. With government austerity programs bringing Europes economy to its knees, and with the U.S. facing the same budgetary music soon, too, its hard to see where strong, sustainable growth is going to come from. Especially when you remember that, worldwide, Baby Boomers are reaching an age where they save, rather than spend. This huge demographic of people is going to spend less and less in the future and theyre easily a big enough group to affect economies, just as they have all their lives. In short, as we head into what may be another lost decade for stocks, you do not want to be relying on a rising stock market to reach your longterm financial goals. You need something better you need something more. Something that works again and again, and is simple yet powerful.

Options: Quick Facts

A stock option gives its owner the right to buy or sell a stock at a set price (the strike price) by a set expiration date. You can buy or write (when you write, its called sell to open) option contracts. The option buyer pays for the option and has rights to make a stock trade, while the option writer gets paid to write the contract and takes on a potential trade obligation (the opposite side of the buyers trade). Each option contract represents 100 shares of the underlying stock. Options are usually only exercised (turned into a stock transaction) at or near expiration. As option writers, we are essentially writing insurance policies to other investors and collecting premiums. Its that simple. At Motley Fool PRO, we view options as excellent portfolio tools for generating recurring income in any market, managing risk, buying stocks cheaper or selling dearer, hedging, shorting, leveraging gains and more.

STARTING YOUR OWN INCOME STREAMS How many times have you bought shares of a stock only to see it decline? If youre like most people, its most times. Its just how it works out. When you buy a stock, its likely to trade lower at some point (usually soon) after you bought it. That comes with investing. But it doesnt have to be this way. Instead of buying a stock and watching it drop, why not wait to buy it when it declines, and get paid while you wait?
Thats exactly what selling (or writing) simple put options allows you to do. A quick primer: When you sell a put option, youre agreeing to buy a stock if it declines to your strike price by your options expiration. For that agreement, you are paid on day one. You collect income called a premium, because youre basically selling someone insurance. The put buyer knows that if the stock falls, they can sell the stock to you at a set price. So, theyre paying you for that. Lets take a real-world example.

Income Play #1: Intel

Microprocessor giant Intel (Nasdaq: INTC) has been an active and profitable position in Motley Fool PRO since we launched in 2008. Wall Street has had the company all wrong, expecting no growth, expecting it to be crushed by mobile devices. But Intel dominates the highly profitable business server chip market, and is selling PCs like crazy in the new largest PC markets in the world: China and Brazil. Meanwhile, Intel avoided the mobile chip market (smartphones) because the margins were too low. Now that Intel can produce smartphone chips in volume and at margins that companies demands, Intel is entering the mobile space. And its not too late! You know how often you get a new mobile phone: every few years, if youre typical. The product cycles are very short. This means Intel can always get its chips into new phones as theyre designed, and enter the market quickly. Weve been right so far. Intel has grown earnings by strong double digits even as Wall Street expected flat results. And weve made money on Intel. Now the stock is up quite a bit, though, so we only recommend buying it cheaper. That means: Write put options for income until you get a cheaper price. You can do this again and again, so you dont even mind if your price comes along or not!

pro.fool.com

Investing like a PRO

Motley Fool PRO

At a Glance
Intel (Nasdaq: INTC): $25.30 April 2012 $24 puts: $0.95 per share Yield on potential share purchase ($0.95/$24): 3.9% in just over three months (more than 15% annualized) Trade: Sell to open one April $24 put for every 100 shares of Intel youre willing to buy Potential outcome #1: Intel ends the April expiration above $24. You keep the $0.95 per share you were paid, earning nearly 4% in three months even if the stock did nothing or went down some. Potential outcome #2: Intel ends the April expiration below $24. You agree to buy shares. You still keep the $0.95 you were paid, so your net start price is $23.05 (8.8% below the current price). See how easily you could earn 4% income in just over three months, even if Intel stock goes nowhere or dips? Now imagine doing this again and again on stocks you trust, basically writing yourself checks month after month as these stocks just hold their ground or bounce around. Thats how reliable and steady writing puts on strong companies is, even over the last 12 volatile (but flat!) years for stocks.

would be another 4.3% yield on your purchase price. Lets walk through this presumed trade. Intel (Nasdaq: INTC): $24ish come April 2012 August 2012 $25 calls: $1 Yield on your purchase ($1/$23.05): 4.3% in just over three months (more than 15% annualized) Estimated Trade: Sell to open one August $25 call for every 100 shares of Intel you already own Potential outcome #1: Intel ends the August expiration period below $25, so you collect all of the income, and still keep your stock. You can write covered calls again for more income. Potential outcome #2: Intel ends the August expiration period above $25, so you let your shares be called away, or sold. You still keep the $1 you were paid, so your net sell price is $26. Youve made 12.7% on your $23.05 purchase price in trades that took eight months. And now that youve sold your Intel stock, you can turn around and write new put options, to potentially get new shares again lower. You can see how this excellent income strategy can be used again and again on strong but generally range-bound stocks (although if the stocks go up, you also make money). With 500 of Americas best companies on average going nowhere since 1999, this has been a fantastic way to make money on them again and again as they bounce around a range. Sell to open puts to earn income and potentially buy shares on dips. And then sell to open covered calls on the shares you own, to earn income while waiting to sell on a rebound. And repeat that again and again. This is such a viable strategy across a wide array of stocks that it will change how you invest, give you much more flexibility, produce regular streams of income, and still let you enjoy upside in these positions and the rest of your portfolio. And youll no longer mind flat or range-bound stocks.

The Next Step

Now imagine that you did get to buy Intel stock at $23.05. Youve locked in a 3.5% dividend yield (and lately growing) for as long as you own the shares. But your income checks dont stop there. Because now that you own shares, you can turn right around and write covered calls, which are just as simple as writing puts. Writing covered calls is an income strategy so reliable that its a favorite of not just retirees, but also hedge funds. Imagine its April 2012 and you now own Intel stock, bought at your discounted price thanks to the puts you wrote. You could wait for the stock to appreciate a bit and then write covered calls, or start right away. In April, assuming Intel is around $24, you should be able to write $25 covered calls that expire in three months for more than $1 per share. That

Motley Fool PRO

Investing like a PRO

pro.fool.com

Income Play #2: Plum Creek Timber

Now for something just a little bit different... In December 2008, Motley Fool PRO suggested that its members buy the largest private landowner in the United States, Plum Creek Timber, for all the reasons youre about to read in our free report below. And for another reason, too: To generate steady income on it with simple option strategies. After members bought a stake, the PRO Portfolio ponied up $32,000 to buy its own 1,000 shares at $32. In the three years since follow, the stock is worth a modest $6,000 more, but with our simple income strategies, weve collected $12,425 in additional proceeds. Add in the $5,040 that weve also been paid in dividends, and weve collected $17,465 in income, or 54.6% of our share purchase price, in just three years. Now thats a great and realized gain. And the beautiful thing is, we still own our entire stock position, which is worth more now; we continue to enjoy our 5.2% dividend yield; and we continue to write more options on the position to keep collecting still more income. At this rate, in just a few more years, our position will be entirely paid for with income that we can use however we want, and yet well still own the entire position. Thats attractive, PRO-style investing. Too many investors ignore dividends, let alone simple option strategies to generate income. Perhaps these people think these strategies cant add up to real money. But let me assure you: they make all the difference. Its well known by now that dividends account for nearly 40% of the S&P 500s total return since 1926. What isnt so well known is how much extra, regular, and steady income you can create for yourself, again and again, by adding basic option income trades to your portfolio as demonstrated here with Plum Creek Timber. Continue below to learn all about why we like Plum Creek Timber so much, and then see how you can begin your own steady PRO-based income strategy on the stock today.

Buy and Strangle Plum Creek Timber for Steady Income

At a Glance
Business: Plum Creek Timber (NYSE: PCL), the largest private landowner in the United States Estimated fair value: Low $40s Preferred buy price: Mid $30s Type of holding: Natural resource asset; yield position with upside Why buy: Timber is a great hedge asset against inflation (which is running at a meaningful 3.4% per year right now) and doesnt tend to correlate with the rise and fall of other assets. Unlike other natural resources (oil, gold, etc.), timber grows at a yearly rate about 7% per annum in volume. The stocks attractive dividend yield of 4.4% is primarily treated as a long-term capital gain, offering shareholders a lower tax rate than regular income. Plum Creek is the best-of-breed manager in the timberland industry.
pro.fool.com

The Big Picture

Its no surprise that many ancient cultures worshipped the tree or that the United States has celebrated Arbor Day for 136 years strong. Not only do the green giants provide shade, protection, and beauty, but theyre essential to construction and paper production. Plus, wood by-products, which can be used in biofuels like cellulosic ethanol, are receiving more attention as an alternative energy source. For investors, timber is useful as both a tool to diversify our portfolios and a hedge against inflation. In fact, legendary investor Jeremy Grantham found that timber prices beat inflation by an average 3.3% from 1904 to 2004, and a study by the Campbell Group shows that from 1987 to 2007, the NAREIT Timberland Index had a negative correlation to real estate and only about a 40% positive correlation to the S&P 500. The best way to capitalize on timber is to own a stake in the timberland itself not saw mills and paper mills, which are more cyclical in nature. That makes Plum Creek Timber (NYSE: PCL), which owns more acres than any other timberland manager, a terrific holding in the industry. It not only provides the Motley Fool PRO portfolio with appreciation potential and a strong dividend yield (currently 4.4%), but it serves as a solid hedge against other asset classes.
Motley Fool PRO 5

Investing like a PRO

Our Take
Plum Creek isnt your typical real estate investment trust (REIT). While most REITs are required to pay out at least 90% of ordinary income as dividends, Plum Creek isnt bound to that rule because timber harvests are predominately classified as long-term capital gains. This actually benefits investors because the dividend payments qualify for a lower income tax rate. Unlike other timber-based REITs, such as Potlatch (NYSE: PCH) and Rayonier (NYSE: RYN), Plum Creek is predominately focused on timberlands. In fact, its 7.5 million acres make it the largest and most geographically diverse private landowner in the United States. (To put that in perspective, Plum Creek owns 1.6 million more acres than youll find in the entire state of Vermont.) In addition to the timber itself, the company owns excellent real estate assets as well as subsurface assets like cement and natural gas that third parties pay Plum Creek to extract. Similarly, third parties wishing to build wind turbines, roads, or power lines through the land need to pay Plum Creek royalties. Finally, Plum Creek earns additional profits through strategic buying and selling of land, typically making a few transactions a year. Plum Creeks timber falls into two major categories: pulpwood (for paper) and sawlogs (for construction). Sawlogs offer better margins and contribute about 70% of the companys cash flow, but both types are important to the business. The pulpwood and sawlog markets can behave independently of each other, and Plum Creek has a knack for predicting these market shifts, managing its harvests accordingly. In 2006, as construction slowed, Plum Creek slowed its sawlog harvest and ramped up pulpwood. This management know-how cant be found on the balance sheet, but its what makes this company the best in its field.

and 2030. Plum Creek is also well-positioned to benefit from the green energy movement its the first timber company to have 100% of its lands certified under the Sustainable Forestry Initiative. Plus, the company sees opportunity for the use of wood pellets and chips in biofuels. While Plum Creeks future may not get your heart racing immediately, the company can reasonably achieve sustainable growth rates over the long run. Coupled with a 4.4% dividend and sensible options strategies for more income, double-digit annualized returns with low risk are the name of the game here.

How You Can Follow Our Strategy

Heres how to get started right now:

ACTION: Buy half of a full allocation in the stock, in round lots of 100 shares. So, if youd be comfortable holding 6% of your portfolio in Plum Creek, as we are, then buy just 3% to start, in round lots of 100.
Recent share price: $37.50

NEXT ACTIONS: Sell to open a strangle option strategy on the stock, like this:
Sell to open August 2012 $35 puts, one for every 100 shares you just bought Sell to open August 2012 $39 calls, one for every 100 shares you just bought By doing these two simple trades (buying stock, and then selling to open these two options on it in one other trade), youll buy shares lately around $37.50, locking in a 4.4% yield. Next, this first round of options will pay you (as of January 10, 2012) about $3.50 in credits, on day one. Thats a 9.3% yield on your share purchase price that youll earn between now and August as long as the stock is between $35 and $39 the range it has frequented way back since 2009. Add in a few dividend payments, and in the next seven months, youre on track to earn double-digit income returns on this stock even if it goes nowhere. And thats just the start. As weve done in PRO since 2009, you can repeat this strategy again and again. Even if Plum Creek stock drifts up or down, or even if it crosses one of your option strike prices, you can roll this strangle up or down by expiration to typically keep much of the income, and the stock, and set up another income trade.

Like Watching Trees Grow

The beauty of the timber business is that when the economy is good, trees are harvested for nice profits and when the economy is sour, trees are planted and existing trees are allowed to grow, adding value as time passes. As a result, Plum Creeks sustainable forestry provides very consistent growth over the long haul. But at the same time, trees can take decades to mature, forcing Plum Creeks management to have an extraordinarily long-term focus. In a business world thats tragically focused on the short term, its refreshing to own a company looking five to 15 years down the road. But that doesnt mean theres no acceleration ahead. The company remains bullish on the long-term fundamentals of real estate, particularly in the southeastern region, where the population is expected to increase about 70% by 2050, accompanied by a 54% increase in construction between 2000

Motley Fool PRO

Investing like a PRO

pro.fool.com

Because the strangle pays you $3.50 to start, your income profit range on the stock is $31.50 all the way to $42.50. Thats right: a very large range for this stable stock.

Earn income if the stock is anywhere between $31.50 and $42.50 Earn the full income if the stock is between $35 and $39 by August Keep the trade going longer if you want to, even if the stock has moved, by closing your options before expiration, and writing new ones that expire later Within a few years, you could have a 54% return the way we do; a few more years after that, and your position could be all profit, even if (or especially if!) the stock hasnt gone anywhere. This is an income strategy you cant afford to ignore, because its steady, reliable, and easy on solid companies you already know and love. Its called a Covered Strangle, and we use it often in Motley Fool PRO, where members have come to love it. The Motley Fool owns and has a covered strangle on Plum Creek.

So Whats the Catch?

If Plum Creek drifts below $35 by August, your puts obligate you to buy your second half of shares unless you roll them or close them. But you still keep the $3.50, so your second shares would be bought at a cheap $31.50. Or, you can roll the pus to a later month and wait again. If Plum Creek is above $39, the $39 calls you wrote obligate you to sell your stock in August if you dont close the calls early, but your net sell price is $42.50, because you still keep the option income. So, you could book a healthy 13.3% gain from your purchase price, or roll the strangle to a later month to keep your shares and target more income. Thats it in a nutshell: Buy stock in round lots of 100 shares Sell to open $35 puts and $39 calls, in equal amounts, both expiring in August Receive $3.50 per share from option income to do so

STAY TUNED!
On January 24, Motley Fool PRO will open to new members for a very brief time. Check your inbox for your invitation. For more on Motley Fool PRO, click here.

pro.fool.com

Investing like a PRO

Motley Fool PRO