Tuesday, January 24, 2012

Apple Inc. (AAPL) - Contrary Opinion: Earnings Vol is NOT Low -- It's Priced to Perfection.

AAPL is trading $424.10, down 0.8% with IV30™ up 2.7%. The LIVEVOL® Pro Summary is below.


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I'm gonna skip the company description that normally precedes the blog because... well, because it's Apple, dude...

This is a vol note and analysis on AAPL the last trading day before the company releases earnings. In part this is due to reader demand, but there's another part that wants to clarify a certain point that I think has been misunderstood in some reports. Most notably -- AAPL earnings vol is not unusually low this time around. First, I'll demonstrate why that belief could be reasonably founded, then I'll demonstrate why while reasonable, it's not quite right, IMHO.

Let's start with the Charts Tab (6 months), below. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20 - blue vs HV180 - pink).

First, let's look to the stock portion. We can see the recent run up in AAPL stock -- certainly well covered in the news. Now to the vol portion. Here's the salient argument that can be made for the conclusion that AAPL implied vol is low going into earnings relative to prior releases and simply, relative to the past implied (not just surrounding earnings).

1. Check out the IV30™ right before the last earnings release (highlighted and circled). That actual level on close before earnings was 40.71%. Compare that to the 32.93% level today, and yeah, we're lower right now.

2. The 52 wk range in IV30™ for AAPL is [20.09%, 51.46%].  Said differently, the level today puts it in the 41st percentile relative to the last year. Again, the argument can be made that vol is low.

But, here's where the argument, IMHO, fails... and quite substantially. Let's look at the last two years (eight earnings cycles). This is just IV30™, with the "E" icon representing the earnings date(always AMC).

I've blacked out the vols other than the earnings dates for easier analysis. I have also drawn that green horizontal line to more clearly illustrate the current vol level drawn back for two years. What do we see?

First, I'll list the dates and the actual IV30™ levels:

4/20/10: 32.01% <--- corrected --->
7/20/10: 39.84%
10/15/10: 38.54%
1/18/11: 32.74%
4/19/11: 28.44%
7/19/11: 30.56%
10/17/11: 40.71%
1/24/12: 32.93%

1. Four of the last seven earnings cycles, AAPL showed lower vol than today. Of course, correspondingly, three of the last seven cycles showed higher vol. That's a pretty good argument that vol is not low right now, but rather fair value.

2. Using measures of middle, one is above and the other is equal to the current level and both are within two percentage points. Again, feels like fair value... quite noticeably fair. Even, scary fair...

<--- corrected --->
Today: 32.93%
Mean: 34.82%
Median: 32.93%

3. Looking a bit closer, two of those three instances where the IV30™ was elevated to the current level were the final calendar quarter (late October). That suggests a potential seasonal effect -- is there any reason to believe vol is elevated in October?... Hmm....

4. Finally -- let's look at the stock moves (and more importantly, the ATM straddle moves) one day after earnings. I computed this data using Livevol® Excel (LVE).

The far right hand side column is the key. It demonstrates that the one day front month ATM straddle has gone down seven of the last eight quarters. In fact, before last quarter, there was a streak of at least seven straight quarters where the straddle value went down. In English, AAPL implied vol (a forward looking measure) has tended to be priced higher than the actual realized movement. Note that last quarter was one of the three times when the IV30™ was priced above the current level.

If our sample of eight quarters drawn from the population demonstrates that AAPL earnings vol is usually a bit high, and the current level is higher than 4/7 of the last quarters and in between the mean and median, again we can make a strong argument that AAPL vol is not depressed right now -- even an argument that it's high.

In any case, regardless of what AAPL does this time around, with the information we have right now -- which is simply the past, the vol is not depressed, it's quite fairly priced.  This is a phenomenon we should expect given the visibility of this instrument.

I've included the AAPL Skew Tab and Options Tabs for completeness, but refrain from further comment other than this:

Whether or not AAPL vol is "fair" does not guarantee that the stock doesn't (or does) move more than the ATM straddle (or a multiple of the ATM straddle). The event tomorrow is a sample selected from an "unknowable" universe. The best we can do is analyze the past (which is also just a sample) and opine on the future from that sampled past.

This is trade analysis, not a recommendation.

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  1. Although the straddle might not be the best trade the calendar spread Jan wkly/Feb month would probably be a winner. any thoughts?

    1. Hi SamSam,

      I can't really comment on any specific trade analysis. In general, selling gamma into earnings for any company is quite risky.


  2. Ophir,
    What I find interesting is that if you look at the jan 27th vols there is a pronounced dip from 400 to 445-450 and then the vols pick back up Ito thr high 400s. It's almost as f the market 'knew' the stock was going to 450 and therefore people were setting up 1x2 400-450 call spreads or 400-450-500 flys or something of the like. Just as likely a fluke but interesting anyway.