Monday, October 19, 2009

An AAPL a Day

In preparation for Apple Inc. earnings set to be released tonight, let's take an in depth look at its volatility characteristics.

After reaching a 52 week low of 27% on July 22nd, AAPL's implied volatility has increased gradually up to 37% in anticipation of tonight's earnings announcement. Ironically, the 52 week low was reached as a result of the volatility crush experienced after last quarter's earnings announcement. Furthermore, IV has since run right back up to where it was sitting the last time AAPL reported earnings.

[Source: Livevol Pro]

Unlike implied volatility, 20 day HV is currently sitting around 18% - not only a 52 week low, but the lowest its been for over two years. So... suffice it to say there's a notable difference between HV and IV.

Livevol Pro includes an earnings and dividends tab chalk full of useful information for analyzing volatility plays into earnings. In addition to displaying the underlying's price 5 days pre and post earnings, it also displays changes in the value of a front month and second month straddle as well as changes in implied volatility for both. This allows the user to glean insight into the average amount of volatility crush experienced post earnings, as well as how a volatility buyer or seller (via a straddle) would have fared.

[Source: Livevol Pro]

The graphic below displays the actual change in value of a front month straddle for the past 2 years of earnings. I used the straddle value on the day before earnings and compared it to the straddle value on the day after earnings. The table helps in assessing how efficient the options market was in pricing in the expected post earnings move in the underlying. Out of the seven earnings analyzed, five resulted in options being overpriced and two resulted in options being underpriced (click image to enlarge).

The table helps illustrate why most professional traders probably prefer selling volatility into earnings. More times than not, options are too pumped up.

But here's the rub. The times when a stock ends up gapping more than expected can be quite painful for vol sellers. Who cares if I win 5 out of 7 short volatility plays if on the 2 losers I get steamrolled? In the end I believe this exercise simply reiterates the importance of sound risk management. Though it doesn't take a genius to tell you there's an edge in favor of vol sellers into earnings, it does require at least a savvy trader to play earnings profitably over the long run. Make sure you exercise sound risk management rules like diversification and proper position sizing.

As for AAPL this go around, I'd probably lean towards selling vol via a strangle or iron condor.


Karen said...

do you have an email address?

Tyler Craig said...

Sure Karen-

Justin said...

What do you think about selling a call just after the spike, while IV is still high? I was just looking at the NOV 210, it's at $1.98.
I know, the trend is working against us. I would be more inclined to sell puts if it had gapped down, since the trend would be helping to suck it back into the gap.

Tyler Craig said...

Hey Justin,

If it were possible to sell a call after the stock gapped but before vol dropped, then yeah it would seem like a decent idea. The problem is right when the market opens post earnings, vol has already come in quite a bit. Yesterday IV 30 was around 37%, at this morning's open it was at 28%, and then it ended the day around 26%. 26% is about the lowest its been for 2 years. So I'm not sure if I'd say that vol is still high. I'm currently seeing the NOV 210 call trading at a 25% volatility, so not high at all.

If I were to sell a call it would be more of a directional bet as opposed to a volatility bet at this point. Which means it all depends on how neutral to bearish you are on AAPL.

Justin said...

Tyler, thanks for the insight. What are you using to find the current specific IV readings?

Tyler Craig said...


You can find the IV of individual options right off the option chains in either the EduTrader or your broker's platform. So that tells you what the 210 call was trading at. As far as IV 30 (which is the gold line shown on Ivolatility's website), I used livevol pro. Ivolatility also shows you the reading, it just usually doesn't show the vol crush until the day after.


Nice post on apple.