Earnings: Expected Volatility
Disney (NYSE: DIS) is reporting first quarter results on Tuesday Feb 7, 2017, after the market close. The company will host a conference call at 4:30 PM same day. According to the at-the-money options straddle expiring Feb 10, 2017 traders are expecting a post-earnings stock move of plus or minus 3.0%. Previous earnings Disney stock gained +2.9% vs an expected 2.9% move to close at $97.68. The stock is now sitting at around $110 or 12.9% higher from its post-earnings closing price. The stock price ranged between $95.78 and $111.99 since its last reported quarterly earnings.
Heading into the earnings announcement, option volume has been noticeably bullish when measured by non-complex option orders that were executed on the put offer vs call offer. On a 30 day moving average, traders purchased $2.2 million of bullish calls in notional value vs $676K in bearish puts for a 3.2 to 1 margin in favor calls. The largest open interest in the near term earnings expiration is on the 10-Feb-17 117 Call with 4800 contracts. The call closed around .18 cents (marked to market) on Friday and is 6.1% above the current price.
Historical Earnings Statistics
The average (absolute) earnings move in the last six quarters is 3.9% matching the average expected moves of 3.9%. Moves to the downside were much sharper than the upside moves with average downside moves registering 5.6% vs average upside moves 2.1%. The stock opened higher three times in the last six earnings releases and each of those times the stock continued climbing higher into the close for additional gains.
Traders can use options to gain exposure to non-directional earnings volatility. The strategies can be used to wager either on an earnings move exceeding expectations or that the earnings move will be more subdued than anticipated.
The following lists three examples of strategies that bet on an earnings move.
1. Straddle- 10-Feb-17 110C - 110P premium $3.35
2. Strangle- 10-Feb-17 113C - 107P premium $1.18
3. Iron Butterfly 10-Feb-17 110C - 110P -113C -107P premium $2.17
The $110 straddle costs approximately $3.35 in premium. The long straddle strategy (buying put +call option) will require the stock to move by more than $3.35 in either direction or +/- 3% by expiration for the straddle to be profitable. If the stock finishes at exactly $110 the entire premium will be lost and go to the seller. Breakeven points are $106.65 and $113.35.
The 113 Call and 107 Put strangle is priced at approximately $1.18. For the long strangle strategy to be profitable the stock will have to finish below $105.83 or above $114.18 by expiration (3.8% move in either direction). If the stock finishes anywhere in between the strikes than the entire premium of $1.18 will be lost and go to the seller.
For the strategy long straddle 110C -110P and short strangle 113C -107P the cost is approximately $2.17. The maximum gain is .83 cents or 38% if the stock close above $113 or below $107 at expiration. The breakeven points are $112.17 and $107.83. If the stock closes at exactly $110 the entire premium will be lost and go to the seller.