Thursday, January 20, 2011

Google (GOOG) - Earnings Preview

GOOG is trading $626.20, down 0.9% with IV30™ up 5.1% and earnings due out AMC today. The LIVEVOL® Pro Summary is below.


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Let's look at GOOG stock price history over the last 8 earnings cycles - the one day changes.

The one day range has been (-$45.16, $60.52), yet the average is basically no change i.e. $2.84.

Let's look to the Skew Tab.

As expected, we can see a monster gap between the one day "earnings only" options (Jan monthlies) and the Jan 28 weeklies as well the the Feb monthlies. The question is, how do you trade this beast?

The Options Tab (below) illustrates the prices as of ~ 2:20pm EST.

The one day earnings only straddle is worth ~$31.50 or ~116 vol. So, in English, the option markets reflect that the stock will move within that range (ish) ~68% of the time. And, yes, I know that's dependant on several likely untrue assumptions.

The average one day earnings straddle has been priced at ~135 vol over the last eight quarters (when relevant) with a range of [108.34, 174.87]. In other words, the vol as of right now is in line with prior earnings cycles.

Possible Trades to Analyze
Although GOOG has a small stock move on average, it really can gap. Just look at the last earnings cycle - it was the biggest move of the last eight.

1. Bet on a small move:
1a. Do the Jan 615/25/635 butterfly and pay $1.10. That yields a MaxGain of $8.90, but requires GOOG close inside ($616.10, $633.90). The MaxLoss is the price paid.  This actually feels expensive to me.  I like this for maybe $0.80 or less, not over $1.00.  Whatever the price, it's likely a loser, thus the large MaxGain:MaxLoss ratio.  The question really is, are the odds better than the payoff?

1b. Do the Jan 610/625/640 butterfly and pay $2.20. That yields a MaxGain of $12.80, and requires GOOG be inside ($612.20, $637.80) on close. The trade-off with number #1a of course is that it risks twice as much capital for that extra room in the PnL range.

The PnL chart for this butterfly is included below.

1c. Similar type bets but with the Jan28 (weekly) options.

2. Bet on a biggish upside move.
Buy the Jan 645/660 call spread for $3.90 with a MaxGain of $11.10.  Similar type bets to the downside are also on the board.  The one rule for me here would be that naked options (long or short) are not in play.

3. GOOG does have this odd tendency to pin near a strike on earnings. It's a phenomenon that has roped me into betting on earnings before. If you think the same pattern will repeat, pick a strike you think it's going to and do the butterfly around it (i.e. sell that strike 2x and buy the strike above and below to cover). Wider wings yield a larger PnL range but also risk more capital.

This is trade analysis, not a recommendation.

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