ConocoPhillips (COP) is expected to hike its dividend per share next month. That may help COP shareholders and new potential investors as it could push COP stock up 40% to $121 per share, equal to its trailing 12-month dividend yield.

COP is at $86.29 as of Friday, April 5, down over 15.7% in the last week. That pushed its dividend yield to 3.62% (i.e., $3.12 dividend per share (DPS)/$86.29). This is well over its average 12-month yield of 2.71%, using Morningstar data.

That implies the stock could be worth considerably more. For example, based on this trailing 12-month (TTM) yield, COP could potentially be worth $115.13, or +33.4% more:

   $3.12 DPS / 0.0271 = $115.13

   $115.33 / $86.29 = 1.334 = +33.4% upside

Dividend Hike and Price Targets

Moreover, in a March 11 Barchart article, I showed that ConocoPhillips is likely to hike its dividend ("ConocoPhillips May Hike Its Dividend Next Month - Making it a Favorite of Value Investors").

I assumed that ConocoPhillips may hike the dividend per share (DPS) on May 8 (before the market opens) by 10% to $3.43 (i.e., $3.12 x 1.10 = $3.43 DPS). However, just to be conservative, let's assume just a 5% raise:

  $3.12 DPS x 1.05 = $3.28 DPS

That implies that its forward dividend yield is now 3.77%. That's over 106 basis points higher than its TTM yield of 2.71%. It also implies that COP stock could be worth 40% more:

  $3.28 forward DPS / 0.0271 TTM yield = $121.03 target price

  $121.03 / $86.29 = 1.403 -1 = +40.3%

Moreover, Yahoo! Finance reports that the trailing annual dividend yield was 3.28% and its 5-year average yield has been 2.67%. The average of these two is 2.975%.

This implies that COP stock is worth +27.8% more at $110.25 per share (with a 5% dividend hike):

  $3.28 DPS / 0.02.975 = $110.25

  $110.25 / $86.29 = 1.2777-1 = +27.77%

The point is that COP stock could be worth significantly more. Analysts' target prices also underline this higher target price.

Analysts Agree

For example, 30 analysts surveyed by Yahoo! Finance have an average price target of $128.00 per share, +48.3% higher. Similarly, Barchart's mean survey is $129.50.

In addition, AnaChart.com, which tracks recent sell-side analysts' price recommendations, shows that 25 analysts have an average price target of $113.86. That is 32% higher than Friday's closing price.

The bottom line is that COP stock looks deeply undervalued here. But it's always possible COP could go lower. One way for an investor in COP to set a lower buy-in point is to sell short out-of-the-money (OTM) put options in nearby expiry periods.

Shorting OTM Puts

For example, look at the May 2 options expiration period, which is 27 days from now. It shows that the $85.00 strike price put option has a premium of $4.82 per put contract in the midpoint.

That strike price is just 1.49% below Friday's trading price, which could mean a cash-secured short-seller of these puts could be assigned to buy 100 shares at $85.00.

But consider these positive points. First, this short put play produces an immediate yield of 5.67% (i.e., $4.82/$85.00).

Second, the breakeven point, even if an assignment occurs (i.e., if COP falls to $85.00 or lower on or before May 2 and a buyer of these puts exercises the put option), is low:

  $85.00 - $4.82 = $80.18

That is 7% below Friday's close of $86.29. This provides significant downside protection and a great way to set a low buy-in point.

Third, the investor could end up with a significantly higher annual dividend yield - i.e., over 4% annually. For example, assuming a 5% dividend hike to $3.28 DPS:

   $3.28 DPS / $80.18 breakeven = 4.09% annual yield

Moreover, more risk-averse investors could sell short the $80.00 strike price put contract. That midpoint $2.72 premium is still high at 3.40% (i.e., $2.72/$80.00 = 0.034). And the delta ratio is low at 27.8% vs. 42.9% for the $85.00 strike price put contract. That implies a very small chance (less than 28%) that COP will fall to $80.00 or lower by May 2.

The point is that if you think COP will fall to $85.00 or lower by May 2, but won't fall to $80.18 (breakeven), it makes sense to enter an order to “Sell to Open” put contracts at $85.00 for expiry on May 2.

Investors can study the trading risks associated with put options by going to the Barchart Learn Center and looking at the Options Trading Risks tab and others.

The bottom line is that COP stock looks deeply undervalued here. One way to play this is to short OTM puts in nearby expiry periods.

On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.