Wednesday, July 8, 2009

Viewer Mail Follow Up

In yesterday's Viewer Mail post, I reviewed FDO earnings and highlighted why it didn't present any compelling short volatility opportunities. Turns out that assertion was correct so far... Yesterday FDO closed at $27.75 and today it opened at $30.25. The $2.50 or 9% gap would have made the Aug short strangle I highlighted unprofitable. Yesterday the Aug 25-30 short strangle was trading at a $1.45 credit. As of 1 hour into the trading day it's currently trading at $2.10 with FDO already above the short call strike price ($30).
Now, that's not to say it can't turn out to be a profitable trade if FDO were to start filling in its gap. But right here right now, you'd be down about 44%.

This is a prime example as to why you can't just short volatility into every earnings announcement. Some times the options market succeeds at fairly pricing in the uptick in realized vol (read: gap in stock price) that occurs because of earnings. Other times it may even underprice the move.

Bottom Line: When assessing earnings plays make sure there's enough of an edge before jumping into any short vol strategies, such as condors or short strangles.


3percenter said...

Ha! I entered this exact trade yesterday morning(7/7), AUG short strangle 25/30 at $1.46 credit. Bought the put this morning for $.20, still holding the call, currently at $2.30. I'm hoping between theta and a gap refill I can at least get out at break-even. Live and learn.


Tyler Craig said...

yeah, with this type of trade you're always going to have those that move too much. The key is to exercise proper diversification and money management so that one bad trade doesn't kill you. Good luck!

1option said...

Hey Tyler, I was looking to enter a earnings position on AA yesterday, but it looks like the Vol never got ramped up. Was I right now to enter a position?

Tyler Craig said...


Yeah, there wasn't much of an edge on AA- options weren't juiced up enough IMO.

1option said...

You see anything coming up for next week or the week after?

Tyler Craig said...

CVX has earnings tonight, I've got a post coming on it later today when I get chance.