Friday, August 19, 2011

Hess Corporation (HES) - Calendar with Two Twists

HES is trading $55.77, up 0.3% with IV30™ down 1.2%. The LIVEVOL® Pro Summary is below.


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Hess Corporation (Hess) is a global integrated energy company that operates in two segments: Exploration and Production (E&P), and Marketing and Refining (M&R). The E&P segment explores for, develops, produces, purchases, transports and sells crude oil and natural gas.

The stock just came up on a real-time custom scan. This one hunts for calendar spreads between the second and third months. But, there's an interesting twist to this one... two twists, actually...

Custom Scan Details
Stock Price GTE $5
Sigma2 - Sigma3 GTE 7
Average Option Volume GTE 1,000
Industry isNot Bio-tech
Days After Earnings GTE 5 and LTE 50
Sigma2, Sigma3 GTE 1

The snapshot of the scan is included (below) in case you want to build it yourself in Livevol® Pro.

The goal with this scan is to identify third months that are cheaper than the second month by at least 7 vol points. I'm also looking for a reasonable amount of liquidity in the options (thus the minimum average option volume), want to avoid bio-techs (and their crazy vol) and make sure I'm not selling elevated front month vol simply because earnings are approaching.

Looking to the Skew Tab (below), we can see the elevated vol in the second month (yellow line) relative to the third month (green line).

Twist #1: Check out the elevated vol in the options expiring today. In particular, that Aug 55 put vol at ~ 85 yields a put that's worth ~$0.40 to fair value but is $0.77 OTM with five hours left in this expiration cycle. Ooo...

Twist #2: HES's last released earnings on 7-27-2011; the last two years the next earnings cycle was 10-27-2010 and 10-28-2009... So?... Well, that means earnings are due out this year in the Nov cycle -- yeah, that green line. In other words, the month two to three calendar owns earnings vol for less than it sells "non-earnings" vol.

Now we can turn to the Charts Tab (below). The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20 - blue vs HV180 - pink).

It really is remarkable how every stock chart looks the same right now... ok, every is an overstatement, but ya know what I mean... The vol portion looks similar to the rest of the market as well -- the implied has popped, but not as much as the underlying has moved in the last 10 and/or 20 trading days. Specifically:

IV30™: 55.67
HV20: 63.23
HV10: 84.75
HV180: 35.87

Finally, let's look to the Options Tab (below).

Note the vol diff in teh three expiration cycles (including Aug):
Aug: 83.83
Sep: 56.26
Nov: 47.92

Potential Trades to Analyze
1. Vanilla calendar:
Spreading Sep to Nov, owning the vega in Nov protected by an earnings release seems like a reasonable position to analyze. The short gamma is a noteworthy risk here, as, obviously, stocks are moving.

2. Not a vanilla calendar
Trade #1 with a sale of the Aug 55 vol -- that's selling two legs against one long leg and gets super short the gamma (at least for a day). A slight alternative is to do a Aug/Nov spread, and then on close (or on Monday), sell the Sep options to re-up the calendar.

Just a reminder, I'm not kidding when I say the gamma risk right now is substantial. In my mind, 40 VIX isn't sustainable -- it's higher or lower, but it won't stay here. If that's the case (which it may not be), stocks are moving from here (in some direction).

This is trade analysis, not a recommendation.

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  1. Can you elaborate on what you mean by this statement?
    " In other words, the month two to three calendar owns earnings vol for less than it sells "non-earnings" vol. "

  2. Sure:

    The second month volatility is higher than the third month volatility, but the the third month has an earnings report (which is a volatility event). So buying options in the third month pays less (in vol) than that received by selling the second month vol.