Sunday, April 11, 2010

GOOG, I'm Feeling Lucky

Looks like last week's Options Action had a perky Brit named Simon pinch hitting for Melissa Lee. Though he started out like a car salesman amped up on too much caffeine, he fortunately mellowed out as the show progressed. With a slew of earnings on tap next week, they offered up a few trade ideas to mull over. Could earnings be the catalyst to finally propel the market out of its sleepy grind higher? I think it's a decent thesis. I mean, how much lower can historical volatility get? At 7%, it's certainly not tough to bet it will rise at some point. It's timing the turn that can be uber tough though. As most of us know, complacency can linger for quite a while.

As is typically the case, Google has earnings the day before options expiration. With only one day remaining in the front month options and such a big potential move in the works, you can bet the April options will be trading at high volatility levels. Though the large premiums in 1 day options can be quite alluring, keep in mind flirting with gamma can get you a black eye before you know what hit you. Rather than deal with the high risk high reward inherent with April options, Options Action suggested making a directional bet by buying the June 560 put and selling the June 510 put for $15. As of Monday morning, the put spread was actually trading around $13.5, so we'll use that for the risk graph.

[Source: MachTrader]

Typically I'm not a fan of playing strong directional plays into earnings, but if I was going to take a stab at it, I do like the idea of using a spread versus buying options outright. As long time readers know, volatility gets sucked out of option premiums pretty quick following earnings. Using a spread helps to mitigate some of this volatility risk. Also, keep in mind GOOG options have a wider bid/ask spread, making it even more important to use limit orders and get a good execution.

For related posts, readings can check out:
Bear Put Spreads
Options Action