Happy Fourth of July to Barchart readers from coast to coast. May your holiday weekend be memorable and safe. 

When I saw that one of my favorite stocks had unusual options activity on Thursday, I just had to write about it in today’s commentary. 

Neither Costco’s (COST) share volume nor its options volume was busy in Thursday trading--both were half or less of their 30-day averages--but it did have two unusually active put options that are worth considering if you’re an income-focused investor.

As is common when markets are flying, the 632 unusually active call options significantly outweighed the 389 puts by nearly two to one. However, rather than examining one or more calls from yesterday, I like the two Costco put options. Here’s why. 

Have an excellent weekend. 

The Options in Question

As I said, there were two unusually active put options yesterday. Both expire on Aug. 15. Both are out of the money (OTM). Both had decent volume-to-open-interest (Vol/OI) ratios of 4.81 and 4.49, respectively. 

I’ll get back to why I like them shortly, but first, I want to discuss why Costco stock makes an excellent long-term investment for income investors.  

Its Yield Is Less Than 1%

There is no question you're not going to get rich with the dividend income Costco pays out to its shareholders. 

Currently yielding 0.53%, the quarterly dividend of $1.30 and an annual rate of $5.20 isn’t going to make the watchlist of many high-yield funds, but it does possess something vital to long-term capital appreciation, and that is dividend growth. 

With the May 2025 payment, Costco increased its quarterly dividend by 12.1%, the 21st consecutive year it has raised its dividend. It first began paying dividends in May 2004, with a quarterly payment of $0.10 per share. That’s a compound annual growth rate of 13%.

The last time I checked, it’s tough to keep raising your quarterly dividend every year if your earnings aren’t growing. They definitely have been.   

In fiscal 2004 (August year-end), its earnings per share were $1.85. Twenty years later, they were $16.56, representing an 11.5% compound annual growth rate (CAGR). 

Dividends tend to follow earnings. But there’s more.

Not only does it grow its annual dividend rate, but it also pays out special dividends from time to time. Most recently, it paid a $15-per-share special dividend on January 24, 2024. That’s a $6.7 billion payout to shareholders. Before that, it paid out special dividends of $10 on December 11, 2020, $7 in May 2017, $5 in February 2017, and $7 in December 2012. 

If you've held since the first payment in 2004, you’ve received $44 in special dividends, plus over 20 years of quarterly payments. Further, it split its stock on Jan. 13, 2000.

Since May 31, 2004, Costco’s stock has had a cumulative total return of 3,800%. That’s 19% on an annualized basis.  

I think it’s safe to say we can forget about its tiny 0.54% yield. It’s immaterial. 

The Beauty of Costco’s Business Model

I read an article from the Financial Post this morning about Canadian retail bankruptcies. Costco was mentioned by one of the experts discussing the retail struggles of mid-sized retailers in Canada. Costco is a big reason for their demise. 

“Costco runs on an eight to 12 per cent margin and makes most of its money on memberships and renewals,” the Financial Post quoted Toronto-based retail consultant Doug Stephens. “That’s incredibly difficult for the average retailer in Canada to compete with.”

I didn’t include this to bash the Canadian retail industry but rather to point out what investors have known for many years: Costco’s business model is superior to most and not easily duplicable, an essential aspect of any successful and sustainable business.

Its “wide moat” is massive. 

Consider that in fiscal 2024, its topline revenue was $254.45 billion, with a gross margin of just 13.5% and an even slimmer net margin of 2.9%. You won’t last long with margins like these if you don’t know what you’re doing. Fortunately, it does. 

The revenues from its membership fees in the past year were $4.83 billion, 1.9% of its total but 66% of its $7.37 billion in net income. 

I’ve been a Costco member for years. It would have to make one colossal boneheaded move to lose this loyal membership. 

As Kenny Banya said on Seinfeld, “That’s gold, Jerry.” 

The Better of the Two Puts

The $965 strike generates $16.40 in premium income. That’s an annualized return of 14.4%, while the $970 strike’s annualized return is 16.1%. The extra premium and return are your reward for the higher breakeven on the downside.

If it were me, I’d go with the $965 strike because if you do end up having to buy the shares, you get a better entry price. However, with a 70.9% profit probability, there’s a good chance you won't have to, and you’ll pocket the premium. 

I like it.