March 23, 2022

Sure, the rally in the overall market may not last, but this unusual environment is still creating great opportunities in certain pockets if you know where to look. One such opportunity exists in the new and rapidly growing marijuana industry.
The growth in marijuana is undeniable.

While most companies have struggled to make a profit in the young industry, one company has been making money like crazy. It’s a marijuana farm REIT with a superior business plan that has managed to grow profits 600% over the last four years. The stock has been a phenomenal performer. But it sold off recently and appears to have just begun moving higher.

This month I also highlight a call on Global Ship Leasing (GSL), a stock that has bucked the trend and returned 28% YTD.

There are three portfolio stocks that have been upgraded to a BUY this week: U.S. Bancorp (USB), Visa Inc. (V) and One Liberty Properties (OLP). All the stocks have some momentum and strong reasons why the rally may continue.

Market Overview

A Rising Star in a Troubled Market
It’s been a tough year for the market. Even after a recent huge rally, the S&P 500 is down over 6% year-to-date (YTD). The pace of the index rise from the pandemic bottom in March of 2020 until the end of last year simply could not last.

We may be in the early months of a subpar year for the over market, but certain stocks and sectors are on a different schedule. For example, energy stocks are up a whopping 37% so far this year. Portfolio position Global Ship Lease (GSL) has returned 28% YTD even though cyclical international stocks have been under pressure amidst all the geopolitical uncertainty.

Sure, the rally in the overall market may have had it for a while, but this unusual environment is still creating great opportunities in certain pockets if you know where to look. One such opportunity exists in the new and rapidly growing marijuana industry.

The growth in marijuana is undeniable.

It is already the most used recreational drug in the world. And usage is growing like crazy. Global marijuana use has grown by 60% over the last decade and more than tenfold in the U.S. in the last 25 years. In fact, the U.S. is the marijuana capital of the world and currently accounts for anywhere from one third to one half of global consumption, depending on estimates.

But the industry has gotten a big boost from a new trend toward legalization. It became legal throughout Canada in 2018. And the drug is now legal for medical use in 33 U.S. states and recreational use in 18 states. There is speculation about legalization nationwide at some point. But regardless of whether that happens or not, the trend toward more legalization is clear and undeniable.

Timing is crucial here. The industry is growing like crazy. But stocks have had a wild ride. Lately, that ride has been downward as the recent market has shunned growth stocks. But stocks have also gotten very cheap and may already be heading higher.

While most companies have struggled to make a profit in the young industry, one company has been making money like crazy. It’s a marijuana farm REIT with a superior business plan that has managed to grow profits 600% over the last four years. The stock has been a phenomenal performer. But it sold off recently and appears to have just begun moving higher.

We want stocks that are on the move and generate high call premiums. This is a great stock with good value and momentum.

What to Do Now
The market has rallied big time over the past week. Things looked grim at the beginning of last week. The S&P 500 was down 12.44% and the Nasdaq was in bear market territory, down more than 20% from the high. The S&P hit a death cross, where the 50-day moving average crossed the 200-day moving average on the downside.

The death cross usually means further selling or possibly a bottom. It looks like it was a bottom: The S&P rallied more than 6% last week and the Nasdaq soared over 10%. It was the best week for stocks since 2020. The market is up big on Tuesday as well. Is this the end of the selling?

I doubt it.

The problems that plagued the market haven’t gone away, or even gotten better. Stocks are rallying for the most superficial reasons. The war is still raging but the market got used to it and the initial panic is over. We got through the last Fed meeting with just a 0.25% rate hike. But that means more work lies ahead for the behind-the-curve Fed as inflation still rages.

Stocks may rally periodically. But the persistent high inflation and the tightening Fed aren’t going away. Those problems will haunt the market for the rest of the year. While I don’t expect gloom and doom as the economy and earnings remain strong, I don’t see stocks generating much upside traction over the course of the year.

A near-term rally is a great opportunity to sell covered calls with high premiums at strike prices that guarantee a strong total return if called. There are existing calls on Enterprise Product Partners (EPD) and FS KKR Corp. (FSK). This week I highlight a call on Global Ship Leasing (GSL), a stock that has bucked the trend and returned 28% YTD.

While the overall market may not go anywhere this year, certain sectors are bucking the trend. For example, the energy sector is up a whopping 37% for the year. It’s also an improving environment for safe dividend stocks. And financial stocks are coming back as the 10-year Treasury rate is springing to new recent highs.

There are three portfolio stocks that have been upgraded to a BUY this week: U.S. Bancorp (USB), Visa Inc. (V) and One Liberty Properties (OLP). All the stocks have some momentum and strong reasons why their rallies may continue.

Monthly Recap

February 23
Sell V Mar 25 $230 calls at $9.00 or better – Remove
Purchased Global Ship Lease, Inc. (GSL) - $24.96

February 25
VLO February 25 $83 calls at $4.20 – Expired
Valero Energy Inc. (VLO) stock – Called

March 2
Sold EPD April 14 $24 calls at $1.25

March 10
SOLD FSK April 14 $22.50 calls at $0.90

March 23
Buy Innovative Industrial Properties, Inc. (IIPR)
Sell GSL May 20 $30 calls at $2.30 or better

Featured Action

Featured Action

Buy Innovative Industrial Properties, Inc. (IIPR)
Innovative Industrial Properties is a Real Estate Investment Trust (REIT) specializing in the acquisition and ownership of properties that grow legal marijuana for medical use in the United States. The company currently operates 105 properties in 19 states under long-term leases.

Innovative has a great business model. As a result, while the cannabis sector as a whole has been struggling, IIPR has been a superstar. There’s a good reason for the outperformance. Innovative is making money, and a lot of it, right now. Most marijuana companies in the early stages of the industry are struggling to show a profit. But IIPR has been ringing the register for years.

Innovative purchases existing green houses and farms from marijuana growers and then leases the properties back to them. These companies often have trouble getting loans from banks and other conventional sources because marijuana is still not legal at the federal level. Innovative, by buying the properties, gives them a much-needed cash injection.

The properties are leased back under long-term contracts, currently with an average contract length of over 16 years, with triple net leases, where the operator pays for maintenance, taxes and insurance.

How has the formula worked? The company has growth adjusted funds from operations by over 1,500% since 2018. The quarterly dividend payout (currently yielding 3.42%) grew 600% over the same period, from $0.25 per share to the current $1.75. The stock returned 539% in the three years from the end of 2018 to the end of 2021, compared to a market return of 100% over the same period.

But the stock has gotten cheap, and that’s the opportunity.

IIPR has crashed this year. It’s down 25% YTD and 30% from the 52-week high. The reason is mostly external market conditions. As the Fed is poised to raise interest rates, investors had been rotating out of highly valued growth stocks. It’s also true that the company is facing increasing competition. And there is an outside risk that marijuana will be legalized at the federal level, which would enable bank lending and diminish Innovative’s value as the only source of funding.

Federal legalization is unlikely any time soon. There is also more than enough business to go around for a long time despite increasing competition. The stock appears to have bottomed.

It hit the recent low at the end of January. It has stabilized at that range for several months but has moved to a higher level in the past week. The selling in growth stocks may have been overdone. But the selling in IIPR was surely overdone.

This is a company growing at over 30% per year consistently. And there is plenty of runway going forward. It still only has just over 100 properties. Many REITs have hundreds or even thousands of properties.

This is a phenomenal REIT that should see stellar earnings growth for years to come. I believe the selling got overdone in the recent tumult. We can get in at a cheap price with some recent momentum. Plus, IIPR generates huge call premiums.

Sell GSL May 20 $30 calls at $2.30 or better
Expiration date: May 20
Strike price: $30
Call price: $2.30

Global Ship Lease, inc. (GSL)
This has been a very strong stock in a turbulent down market this year. It’s especially impressive because the geopolitical uncertainly created some panic among international stocks. But the container shipping business has been so strong that GSL has managed a 28% YTD return. I’m torn about this one.

On the one hand, I expect good times to continue for GSL for the rest of the year. And it could have more upside in a stabilizing market. But the market environment remains highly uncertain, and we might not be out of the woods yet despite the rally over the past week. The goal of this newsletter is income. There is a great opportunity to secure a nearly 10% supplemental income and possibly a strong total return.

Here are the three scenarios.

1.The stock closes above the $30 strike price but near it at expiration.
Call premium: $2.30
Dividend: $0.25 (March 4)
Appreciation: $5.04 ($30.00 strike price minus $24.96 purchase price)
Total: $7.59 (total return will be 30% in about 3 months)

2. The stock price closes below but near our $30 strike price.
Call premium: $2.30
Dividend: $0.25
Total: $2.55 (total income of 10.2% in 3 months)

3. The stock price declines.
The decline will be offset by the $2.55 in income. Plus, the purchase price is $5 per share below the strike price. The stock has a buffer and could still be above the purchase price even if it’s below the strike price.

Portfolio Updates and Income Calendar

Portfolio Updates

Enterprise Product Partners (EPD)
Yield 7.6%
This midstream energy partnership was off to the races this year until the energy sector and oil prices pulled back a couple weeks ago. But EPD has since regained traction. The stock stabilized and has been moving back higher over the past few days. The temporary overaction that sent oil prices reeling is reversing and is climbing back. It’s tough to predict the near-term gyrations of energy prices and stocks amidst the uncertainty of the war. But the risk appears skewed to the upside. Regardless of the near term, Enterprise’s prospects still look bright for the rest of the year. (This security generates a K1 form at tax time). HOLD

Enterprise Product Partners (EPD)
Next ex-div date: April 28, 2022, est.

FS KKR Corp. (FSK)
Yield 11.4%
It’s been a nice performance. In a very ugly and volatile year where the indexes all at least corrected and remain lower for the year, FSK has returned about 10%. And the market has not been particularly kind to BDCs. FSK has bucked the trend and showed substantial strength and resilience. For now, it looks OK to hold if the market turns south again. And it might take off if things continue to stabilize. HOLD

FS KKR Capital Corp. (FSK)
Next ex-div date: June 15, 2022, est.

Global Ship Lease, Inc. (GSL)
Yield 3.4%
It’s been a rough market and a particularly harsh one for cyclical international companies. But GSL has managed to return 28% YTD anyway. That’s because the container shipping business remains red hot. There is more demand than ships and that dynamic should last a while. Rates are remaining high despite the geopolitical tensions and investors souring on anything global. It’s been solid in a down market and might really take off if the market turns higher. HOLD

Global Ship Lease, inc. (GSL)
Next ex-div date: May 19, 2022, est.

One Liberty Properties, Inc. (OLP)
Yield 5.7%
This diversified industrial REIT did not hold up well in the market tumult. REITs took a big hit in the early part of the year and OLP got hit even worse being a more cyclical REIT that had moved a lot higher recently. It crashed from a high of over 36 per share at the beginning of the year to about 29 per share in late February. I didn’t think the down move was justified. And the stock is rebounding over the last month. It’s back to about 32 per share. I liked OLP before and during the ugliness, and I like it now. But now, it’s moving higher. BUY

One Liberty Properties, Inc. (OLP)
Next ex-div date: March 23, 2022

Qualcomm (QCOM)
Yield 1.8%
The last round of the tech sector selloff really crushed QCOM. It had held relatively strong for most of the tumultuous year in the sector and then the bottom fell out. QCOM pulled back to nearly 140 per share amidst the worst of it, from a high of over 190. But it has been sharply recovering along with the rest of the sector lately. The tech selloff may well have bottomed, although things remain uncertain. But short-term market gyrations aside, Qualcomm’s business is booming. That will prevail over time. We’ll see how the sector plays out in the near term. HOLD

Qualcomm Inc. (QCOM)
Next ex-div date: June 2, 2022, est.

U.S. Bancorp (USB)
Yield 3.2%
Interest rates pulled back for a while after the Russian invasion and bank stocks sold down. But despite the apparently short-lived hysteria, the main pressure for interest rates remains higher amidst persistent high inflation. The 10-year rate has not only since recovered but shot to a new recent high at 2.37%. Bank stocks and USB are also recovering. It’s worth being patient through the current volatility because a bank-friendly environment should reemerge in a relatively short time. BUY

U.S. Bancorp (USB)
Next ex-div date: March 30, 2022

Visa Inc. (V)
Yield 0.7%
This global payments company stock is back in business. V crashed after the initial shock of the Russian invasion as investors soured on anything international. While U.S. business is booming, the global recovery was adding another leg to Visa’s recovery. This year looked very promising. It got clobbered after the initial invasion but has been moving higher recently as investors recognize V as a good place to bottom fish in the panic phase of the crisis. I expect business to remain strongly growing this year and the stock should take off again if this crisis fades. It’s up sharply over the last week. BUY

Visa Inc. (V)
Next ex-div date: May 10, 2022, est.

Xcel Energy Inc. (XEL)
Yield 2.8%
This alternative energy utility stock had floundered badly through most of February. But it sprung back with a vengeance and got to within bad breath distance of the 52-week high. The reason is that alternative energy stocks have been red hot as conventional energy prices go through the roof. The situation makes clean energy a more viable and economic alternative. I like the stock longer term and the recent wild swings are externally induced in a crazy market. HOLD

(XEL) Xcel Energy
Next ex-div date: June 14, 2022, est.

Existing Call Trades
Sell EPD April 14 $24 calls at $1.25 or better
As I mentioned above, EPD has gotten back on track lately after a selloff earlier this month. It’s still below the price at which the calls were sold and the premium is still below out target price. It’s hard to say what the stock will do in this crazy environment in the next three weeks.

Sell FSK April 14 $22.50 calls at $0.90 or better
Although it has proven resilient, FSK is not a fast mover and we may have targeted these calls at a higher strike price than will be achieved by expiration. I’m happy we sold these calls because the market still isn’t out of the woods yet and we supplemented an already huge income with a call premium.

Income Calendar
Ex-Dividend Dates are in RED and italics. Dividend Payments Dates are in GREEN. Confirmed dates are in bold, all other dates are estimated. See the Guide to Cabot Income Advisor for an explanation of how dates are estimated.

The next Cabot Income Advisor issue will be published on April 27, 2022.