Tuesday, July 31, 2012

For-profit Education: Is An Entire Industry Going Away?


The Symbol Summaries for APOL, CECO, EDMC and ESI are included below:









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This is an industry wide note on for-profit education after a scathing review and analysis from the US Senate was made public. Let's start with the news, and move through the review in bits and pieces, then, we'll look at the vol and stock. But, as a motivator to get through all the text below, check out some stock and vol stats:



So, we're talking about a group that is down more than 50% in the last six months, with vols spiking even more than that.  I raise this question at the conclusion of the analysis, but I might as well put it up front as well:

 "If the federal government pulls funding for student loans at these institutions, could they all just go away overnight?"

The source for all of the following Senate report "stuff" is a great Bloomberg article written by John Hechinger and Oliver Staley, published on Jul 30, 2012 1:32 PM PT. You can read the entire article here:
For-Profit Colleges Shortchange Taxpayers, Senate Study Says.

To set the stage, here's the overview:

---
For-profit college chains including Apollo Group Inc. (APOL) pressured students to enroll while dodging questions about costs, according to a Senate report that cites a trove of internal e-mails and training documents.

The schools received $32 billion in tuition aid in 2009- 2010 and aren’t a good investment for taxpayer money, according to the study released yesterday. In its probe, the Senate Committee on Health, Education, Labor and Pensions, led by Iowa Democrat Tom Harkin, examined 30 companies over two years.

[...]

“In the absence of significant reforms,” the report said, “the sector will continue to turn out hundreds of thousands of students with debt but no degree, and taxpayers will see little return on their investment.”
---

To be fair, there was a counter argument put forth in a minority report in yet another example of how divisive our own political system has become:

---
In a minority report, Senate Republican staff members criticized the report’s findings, saying that Democrats repeatedly refused to work in a bipartisan manner and expand the scope of the investigation to include nonprofit and state universities, raising “substantial doubt about the accuracy of the information.”
---

The majority report, on the other hand, openly accused the for-profit education companies:

---
“In this report, you will find overwhelming documentation of exorbitant tuition, aggressive student recruiting and abysmal student outcomes,” Harkin [] said. “These practices are not the exception. They are the norm.”

[...]

Apollo recruiters are trained not to provide direct answers about costs when speaking with recruiters, according to materials cited in the majority report.

“If a prospect says, ‘You’re too expensive,’ the recruiter could respond, ‘Can you afford not to go?’” or “If you are going to making more money, wouldn’t these loans be easier to pay back?,” according to a 2007 training manual cited in the report.

The manual urges recruiters to “create urgency in your students” so they don’t wait to sign up. It counsels recruiters: “Do not tell the student we have classes running every week unless you can agree on a start date, or rolling start dates is a selling point.”

---

Here are some incredible statistics:

---
The report, more than 1,000 pages long, takes aim at Apollo’s University of Phoenix, Education Management Corp. (EDMC), Washington Post Co. (WPO)’s Kaplan Higher Education and other for- profit colleges, which as a group spend more on marketing than instruction.

[For-profit colleges] rely on federal financial-aid money for as much as 90 percent of their revenue.

[...]

The schools also devote more staff to recruiting new students than ensuring the success of their existing ones, according to the study. [...] As a result, 596,556 students who enrolled in the 2008-2009 school year dropped out by mid-2010, the report said. In two- year associate’s degree programs, 64 percent dropped out.

[...]

For-profit college students take on more debt, with 96 percent receiving loans compared with 48 percent at four-year public schools. They also default at a higher rate than their counterparts at nonprofit institutions. Almost half of federal student loan defaults came from students at for-profit schools.

---

Consider some of those stats -- if 90% of the industry's revenue comes from the government, and the government just concluded that these firms, and I quote, "aren’t a good investment for taxpayer money," well, to use a technical term, the may be screwed.

With data that shows, "[a]lmost half of federal student loan defaults came from students at for-profit schools," maybe the Senate is right?

But the colleges are not taking the attacks lightly and have pushed back stringently on the conclusions of the analysis. Here is some of that:

---
Steve Gunderson, president of the Association of Private Sector Colleges and Universities, which represents for-profit schools, said his members provide education to 3.8 million students, including working adults and veterans.

“The report twists the facts to fit a narrative, proving that this is nothing more than continued political attacks on private sector colleges and universities,” Gunderson in a statement.

[...]

The report noted, as an example of “significant reforms,” a Kaplan program that lets students try out classes before committing to take out loans.

“The bulk of the report repeats prior criticisms and relies on dated, isolated situations to characterize current practices,” Kaplan said today in an e-mail.

[...]

In a letter to Harkin, ITT said the complaints in the report “are not representative of typical student experiences.”

[...]

The training manual is outdated and doesn’t reflect Apollo’s approach to enrolling students, Rick Castellano, a spokesman, said in an e-mail.

Apollo Group in 2009 began offering a mandatory orientation program that lets students try programs before committing to taking on debt. The U.S. Education Department and the Harkin report both praised that program, Castellano said.
---

The Bloomberg article shines some light on actual recruiting processes:

---
At Education Management, which runs a chain of Art Institutes and other programs, the company pushed recruiters to meet enrollment targets, according to e-mails. “Please everyone hit the phones!!!,” a manager wrote in a 2008 e-mail. “We are far behind where we need to be!!!”

Supervisors offered prizes such as company-paid trips, including to Hawaii, according to the report. EDMC told investigators that it never sponsored such a trip.

Jacquelyn P. Muller, an Education Management spokeswoman, said the company hasn’t had the chance to review the full report.
---

OK, so there's all that stuff 'n stuff. Let's turn to the stock and vol charts (six months) for four of these companies. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).

APOL


CECO


EDMC


ESI


Ultimately, we can see very poor stock performance over the last six months as well as an abrupt rise in IV30™ over the last month (recall the stats at the top of the article). I do note that CECO has earnings due out today, AMC.

I haven't included the skews, but suffice it to say, while they have all maintained a fairly "normal " shape, the front expiries are elevated to the back in a monotonic relationship. In English,the option market reflects the fact that the near-term risk is elevated relative to the medium-term. The question I ask is, "can these companies lose a substantial piece of their federal aid (for loans), and if so, do they just go away?"

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Monday, July 30, 2012

McMoran Exploration (MMR) - Elevated Vol Points to Risk Event This Week


MMR is trading $13.95, up small with IV30™ up 0.7%. The LIVEVOL® Pro Summary is below.



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McMoRan Exploration Co. (McMoRan) is engaged in the exploration, development and production of oil and natural gas in the shallow waters (less than 500 feet of water) of the Gulf of Mexico and onshore in the Gulf Coast area of the United States.

This is a vol note on a stock that appears to have a vol event coming in the next five trading days (but not earnings). Let's turn to the the Charts Tab (six months), below. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).



On the stock side, while there have ebbs and flows, ultimately, the stock is pretty close to where it was six months ago, and in the middle (ish) of its 52 wk range of [$7.76, $17.33].

On the vol side, we can see the story. The implied has been rising of late and is now nearing an annual high. The 52 wk range in IV30™ is [45.35%, 116.95%], putting the current level in the 94th percentile (annual). I note that the least earnings report was in mid Jul and the next one isn't due out until mid Oct (ish). So, while something clearly is due out, it's not earnings (though it could be an update of some sort).

The Skew Tab (below) helps us zero in on a date for the vol event.



Note that the red curve represents the Aug3 weekly options. We can see a monotonic increase in vol from the back to the front, with a huge vol diff open between the weekly options and the monthly expiries. In English, the options reflect elevated risk in the near-term (weekly options), so it's a reasonable assumption that "something" is due out this week.

Finally, let's turn to the Options Tab, for completeness.



Across the top we can see the vols by expiry are 175.93%, 122.56% and 94.38% for Aug03(W), Aug and Sep, respectively. Whatever the vol news is, since the risk is reflected in the options, the event is not a surprise, though where the stock goes from here is uncertain (duh).

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Friday, July 27, 2012

J.C. Penney (JCP) - Vol Reaches New Annual Highs; Is There Something "More" Than Earnings Coming?


JCP is trading $22.84, up 2.8 with IV30™ down 0.4%. The LIVEVOL® Pro Summary is below.



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J. C. Penney Company, Inc. (jcpenney), incorporated in 2002, is a holding company. The Company is a retailer, operating 1,102 department stores in 49 states and Puerto Rico as of January 28, 2012.

This is a vol note in a stock that has earnings approaching, but even that event doesn't fully explain the new found risk reflected in the options.

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



On the stock side we can see a bumpy ride with a number of large single day moves, but ultimately a downward trend. The stock closed at $30.93 one year ago, so as of this writing it's down 26% YOY. I do also note the recent run up -- the stock closed at $19.25 on 7-17-2012, and is up 18.6% in the last ten calendar days.

On the vol side, we can see the story. On 6-29-2012 the IV30™ was 46.74%. As of this writing, the implied is up 78.6% since then (less than a full month). Then ext earnings release for JCP is due out on 8-10-2012 BMO, but we're still a couple of weeks away from that yet the implied is now at an annual high. Unless there is some news that comes out before the earnings date, I would expect vol to continue to rise into that date. In English, the annual high we see right now could be breached for the next several consecutive days.

The thing about the vol is, I don't really know why it's so high. In fact, the stock made a nice climb on 7-25-2012, and the news stories surrounding that move also point to a bit of confusion. Here's a snippet from a nice Reuters story which openly addresses the fact that the run up that day was in many ways, confounding.

---

(Reuters) - Shares of J.C. Penney Co Inc (JCP.N) jumped almost 10 percent briefly on Wednesday after a well-known fashion editor sent a glowing message about the department store's revamp under chief executive Ron Johnson on social networking website Twitter.

"I'm @jcpenney's HQ. Thank you Ron Johson (sic) for the walk through of JCP's prototype. Get ready to shop! Its (sic) going to be a game changer!" Nina Garcia, Marie Claire magazine fashion editor and judge on television show "Project Runway", said in a tweet.

Garcia also signed on last week as J.C. Penney's "Style Voice" and fashion collection curator.

Penney shares rose to as much as $23.09. The stock was up 4.9 percent at $22.02 later on Wednesday afternoon on the New York Stock Exchange.

[...]

Some analysts questioned whether the tweet by Garcia caused the stock move, but could not point to another reason for the jump.

Source: Reuters via Yahoo! Finance; J.C. Penney stock jumps following influential tweet, reporting by Brad Dorfman and Doris Frankel in Chicago; Editing by Dale Hudson
---

Interesting... There was also some bullish order flow that day.

Let's turn to the Skew Tab to examine the line-by-line and month-to-month vols.



Note that the red and yellow curves are the weeklies. We can see that Aug monthly is elevated to all the other expiries, which makes sense given the earnings date. The Aug10 weeklies will be essentially pure earnings options on Friday Aug 10. That will be interesting in terms of vol pricing.

Finally, let's turn to the Options Tab, for completeness.



Across the top we can see the monthly vols are priced to 72.59%, 61.84% and 88.67% for Jul27(W), Aug03(W) and the Aug monthlies, respectively. Again, the vol is rising to and through a new annual high, earnings are a couple of weeks out and the Aug10 (W) options will end up being one day earnings only vol. This could be very fun to watch if no news deflates the vol bubble until the earnings day.

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Thursday, July 26, 2012

Interpublic Group (IPG) - Disapointing Earnings Create Vol Opportunity


IPG is trading $9.92, down 9.8% with IV30™ down 13.8%. The LIVEVOL® Pro Summary is below.



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The Interpublic Group of Companies, Inc. (Interpublic) is a global advertising and marketing services companies. Interpublic’s companies specialize in consumer advertising, digital marketing, communications planning and media buying, public relations and specialized communications disciplines.

This is a stock and vol note on a company that just released earnings this AM. The results didn't make the market happy, but there's still an interesting phenomenon surrounding the vol.

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



On the stock side, we can see the bumpy ride over the last six months, and then the abrupt drop today off of earnings. Here's a quick news summary:

---
NEW YORK (AP) -- Interpublic Group of Cos., a holding company for advertising and marketing agencies, said Thursday second-quarter net income fell 3 percent, hurt by some U.S. account losses in 2011 and the stronger dollar.

Net income beat expectations, but revenue fell short, and shares of Interpublic fell 9 percent in midday trading.

Interpublic, whose agencies include McCann Erickson and Draftfcb, said its net income fell to $99 million, or 22 cents per share. That compares with $101.7 million, or 19 cents per share, last year. Analysts expected 20 cents per share, according to FactSet.

Revenue fell 4 percent to $1.72 billion from $1.74 billion. Analysts expected revenue of $1.75 billion.

The company said account losses, including consumer products maker S.C. Johnson & Son Inc., and the effect of foreign currency translation hurt results.

Source: AP via Yahoo! Finance; Interpublic falls as 2Q revenue misses Street
---

Looking to the vol, we can see how extraordinarily high the vol elevated into this earnings report, easily a six-month high (but not an annual high). While I do note the vol crush after the earnings report, the implied is still quite elevated to both the short-term and long-term historical realized vols, as well as it's own six-month history. One caveat, historical vol is calculated close-to-close, so that HV20™ number will spike in tomorrow's chart.

The really interesting part of this story comes from the Skew Tab, included below.



We can see a rather obvious vol diff between the front and second month across all strikes. That is, while vol has come in for both expiries, the front has remained quite a bit elevated to the back.

Finally, let's turn to the Options Tab for completeness.



Across the top we can see the monthly vols are priced to 49.88% and 42.76% for Aug and Sep, respectively. To give you feel for what normally happens for IPG, check out the snapshot below with the Symbol Summary and the vols by month (with changes), the day after the last earnings cycle (4-26-2012).



Last time the vol in the front fell considerably more than the second month and left the back elevated to the front. This is actually pretty normal, or in English, the action today is a bit abnormal. Pretty cool...

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Apollo Group (APOL) - Vol Rises, Stock Hits New Low, Are For-profit Education Companies Permanently Not Worth as Much Anymore?


APOL is trading $26.96, down 3.8 with IV30™ up 14.5%. The LIVEVOL® Pro Summary is below.



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Apollo Group, Inc. (Apollo Group) is a private education provider. The Company offers educational programs and services both online and on-campus at the undergraduate, master’s and doctoral levels through its wholly owned subsidiaries, The University of Phoenix, Inc. (University of Phoenix); Institute for Professional Development (IPD); The College for Financial Planning Institutes Corporation (CFFP), and Meritus University, Inc. (Meritus).

This is a vol and stock note in a name that has just breached a new 52 wk low while vol is climbing. While I focus on APOL, the trend seems to be similar for a number of companies within the for profit education industry.  Ultimately, with the new Federal regulations, it's seems a fair question to ask, "are these companies just not worth as much as they used to be?"

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



On the stock side, we can see the ugliness of a couple gaps down as well as a general down trend more recently. Here are some snippets from the two gaps I highlighted:

---
2-28-2012
For-profit educator Apollo Group (APOL) lowered enrollment and operating profit projections, citing an improving jobs market, competition from other educators and changes in its marketing and recruitment efforts.

The operator of the University of Phoenix said it expects flat to low-single-digit new degree enrollment growth for the quarter ending Feb. 29, below the previous expectations for 13%. Factoring out this current quarter's extra day, new degree enrollment is seen decreasing in the low- to midsingle digits, vs. previous expectations of a midsingle digit increase.

Its profit outlook for the August-ending fiscal year sank, too. Apollo now expects operating profit between $625 million and $725 million, excluding one-time items, vs. a previous forecast of between $655 million and $750 million. Analysts were predicting $746 million.

Source: Investor's Business Daily via Yahoo! Finance; Educator Apollo Sees New Degree Enrollment Declining, written by Kevin Harlin.
---

And then in late March:

---
3-27-2012

NEW YORK (AP) -- Shares of Apollo Group Inc. slid 6 percent premarket trading Tuesday after the for-profit education company issued a dim forecast.

The Phoenix company posted a second-quarter profit of 51 cents per share late Monday, reversing a loss from a year earlier. Adjusted earnings per share of 58 cents beat the average analyst forecast by 20 cents. Revenue fell 7.5 percent as enrollments dropped 8 percent, but it still beat estimates.

But Apollo expects new enrollment to turn negative in the third quarter and Citi Investment Research predicted that second-half operating income will fall short of Street expectations.

Like many for-profit educators, Apollo has been dealing with the impact of new federal regulations on enrollment. Stricter government regulations enacted last summer prompted the companies to raise admissions standards, which has cut enrollments and profitability.

Source: AP via Yahoo! Finance; Ahead of the Bell: Apollo Group slips
---

So the stories are similar, business may be waning.  It's the context of the decline that's a bit scary -- this isn't necessarily just a bad time in the business cycle, but rather feels like a permanent paradigm shift in the way these companies can make money. Back to the stock decline, what's more interesting (to me) than the gaps down, is the new decline that started on 7-3-2012. The stock has gone from $36.62 down to $26.96, as of this writing, in about three weeks for a 26% drop. This drop feels scarier than the other two in that it's persistent and consecutive. The 52 wk range in stock price is [$26.84, $68.66], so the stock is right on its 52 wk low.

Looking to the vol, we can see the rise in the implied of late, essentially in lock step with the dipping stock. Since 7-3-2012, the IV30™ has risen from 32.45% to 54.48% as of this writing, for a 67.9% rise. In English, as the stock has dropped ~25% in the last three weeks, the vol has risen ~66%.

Let's turn to the Skew Tab to examine the month-to-month and line-by-line vols.



Note that the red and yellow curves are the weekly options. We do see a beautifully normal skew shape across all four expiries, as well as a monotonic rise in vol from the back to the front. In English, the option market reflects elevated vol in the near-term relative to the intermediate-term. I do also note that the next earnings release should be after all four of those expiries (that's just a projection).

Finally, let's turn to the Options Tab, for completeness.



Across the top we can see the vols are priced to 69.92%, 58.21%, 55.50% and 50.96%, respectively for Jul27(W), Aug03(W), Aug and Sep.

In perusing the news it does appear that other for profit educators are struggling (see the recent release from DeVry, which is also now at a 52 wk low). Looking back to the news story at the top, it does seem like this industry as a whole is going through (has gone through) a substantial shift in the business model as dictated by changes in federal regulations. This downward move may be in fact new equilibrium points for the entire industry... these companies just might not be worth a much as they once were.

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Wednesday, July 25, 2012

WellPoint (WLP) - Stock Gaps Down Off of Earnings; Vol Rises


WLP is trading $53.77, down 12.5% with IV30™ up 7.7%. The LIVEVOL® Pro Summary is below.



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WellPoint, Inc. (WellPoint) is a health benefit company in terms of medical membership in the United States, serving 34.3 million medical members through its affiliated health plans and a total of 65.3 million individuals through all subsidiaries as of December 31, 2011.

This is a very quick vol note in a great example of how vol can rise after earnings. Let's start with the Charts Tab (six months), below. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).



On the stock side, we can see how the underlying dipped off of the Supreme Court ruling surrounding ObamaCare. For more on that story, you can read this post:
Obama Care - Why it Matters to Options, How Vols Explode While Industry Correlation to Market Moves Toward Zero.

But, the news is all about today. We can see that stock drop off of the earnings report. Here's a quick snippet that summarizes the news:

---
Shares of several health insurers sank Wednesday after WellPoint Inc. cut its 2012 earnings forecast and its second-quarter net income dropped more than 8 percent.

WellPoint, the nation's second-largest insurer after UnitedHealth Group Inc., said its enrollment slipped in the quarter. Companies cut jobs, reducing the number of people covered by employer-sponsored health insurance. WellPoint's medical costs also spiked in May. Although they returned to normal levels last month, WellPoint decided it was prudent to lower its forecast in case costs spike again later this year.

The insurer's new 2012 profit view of $7.30 to $7.40 per share was well below the $7.76 per share expected by analysts, according to FactSet. Its quarterly profit also fell short of Wall Street's forecast.

Source: AP via Yahoo! Finance; WellPoint 2Q results infect insurer stocks
---

The news has hit the other insurers, in particular UNH. This is another example of how tightly correlated this group is.

Looking to the vol we can see the point of this post, which is simply to demonstrate that vol has risen off of earnings. See, it is possible!... Vol is up not because of the bad news, it's up because of the added uncertainty that WLP disclosed looking forward. The decreased visibility for future quarters is a new a risk, the bad news in and of itself is not.

I'll skip the skew since there's not a lot going on, and we'll just peak at the Options Tab, for completeness.



Across the top we can see the monthly vols are priced to 32.32%, 31.43% and 33.16%, respectively for Aug, Sep and Dec. We can also see that vol is up across the board, with Sep showing the largest increase (in both vol points and percentage terms).

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Athenahealth (ATHN) - Popping Stock Nearing Vol Annual Low

ATHN is trading $91.62, up 0.6% with IV30™ down 3.0%. The LIVEVOL® Pro Summary is below.



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athenahealth, Inc. (athenahealth) is a business services company, which provides ongoing billing, clinical-related, and other related services to its customers. The Company provides these services with the use of athenaNet, an Internet-based practice management application.

This is a vol note (depressed vol) in a stock that has seen a recent run up on two different news items. I found this stock using a real-time custom scan. This one hunts for low vols.

Custom Scan Details
Stock Price GTE $10
IV30™ GTE 30
IV30™ Percentile LTE 10
IV30™ - HV180™ LTE -7
Average Option Volume GTE 1,200

The goal with this scan is to identify short-term implied vol (IV30™) that is depressed to the long-term stock movement (HV180™) was well as its own history. I'm also looking for a reasonable amount of liquidity in the options (thus the minimum average option volume) and minimum level of vol so the examination is more interesting.

The ATHN Charts Tab is included below (six months). The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).



On the stock side, we can see the abrupt rise of late. The first bit of news came out on 7-18-2012 when the stock went from $79.16 to $88.38 (+11.6%). Here's a snippet:

---
What: Shares of medical billing software specialist athenahealth (Nasdaq: ATHN ) climbed 13% on Wednesday after the company landed a big contract with Health Management Associates (NYSE: HMA) to provide cloud-based back-office services.

So what: While financial details weren't disclosed, the deal is easily athenahealth's largest given Health Management's expansive network of roughly 1,500 physicians operating in more than 300 locations across the country. Naturally, the news also deals a significant blow to rival Quality Systems (Nasdaq: QSII ) -- whose shares are down 10% today -- which will see its five-year-old partnership with Health Management finally come to an end.

Source: The Motley Fool via Yahoo! Finance; Why athenahealth Shares Popped, written by Brian D. Pacampara.
---

On the heels of that news came an earnings release (7-19-2012 AMC). On 7-20-2012, the stock popped from $87.18 to $92.97 or 6.6%. Here's that news snippet:

---
What: Shares of Athenahealth (Nasdaq: ATHN ) popped by as much as 12% after the company reported a solid second quarter earnings release.

So what: Revenue grew by a third, to $103.5 million, turning into an adjusted profit of $0.24 per share once it reached the bottom line. The figures were mostly in line with analyst expectations, but obviously were enough to send investors cheering.

Source: The Motley Fool via Yahoo! Finance; Why Athenahealth Popped, written by Evan Niu.
---

All told, the stock price went from $79.16 to $92.97 in three days. The 52 wk range in stock price is [$40.79, $97.25].

On the vol side, we can see how the implied dipped a bit off of the contract win news, and then substantially off of earnings (which is normal). What I find odd is not the vol drop, but the degree to which it dropped. The 52 wk range in IV30™ is [30.29%, 73.75%], putting the current level in the 9th percentile (annual). The options reflect a sort of certainty that the new price achieved with the news is in fact at or near equilibrium. In English, the options reflect the idea that the stock isn't gonna move a lot over the next 30 days (where a lot is relative to it's own annual past). That is an interesting result -- and not one that I would have expected.

Let's turn to the Skew Tab to examine the line-by-line and month-to-month vols.



The skew is pretty normal, even pretty. That weird shape in the downside puts for Dec is there simply due to some oddly wide markets in those strikes. You can read more about skew here:
Understanding Option Skew -- What it is and Why it Exists .

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



We can see the monthly vols are priced to 33.81%, 37.64% and 42.68%, respectively. I do note (again), how the near-term options are priced to such low vol relative to the annual history and the  back months. Hmm...

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Tuesday, July 24, 2012

Apple (AAPL) - Earnings Preview: May Be Positioned for a Volatile Move; Options Trading Sees Paradigm Shift


AAPL is trading $601.38, down small with IV30™ up 1.4%. The LIVEVOL® Pro Summary is below.



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Apple Inc. (Apple), along with its subsidiaries, is engaged in designing, manufacturing and marketing mobile communication and media devices, personal computers, and portable digital music players

This is an earnings preview for AAPL -- the largest company in the world. There are some fascinating trends in option order flow which Reuters uncovered in an article which hit the front of Yahoo! Finance, yesterday. It's very much the beginnings of a paradigm shift (I think).  I also present an argument that the stock could be volatile tomorrow, even more than the options reflect, potentially.   Of course, it's just an argument for the sake of it, please don't trade on that weakly formed hypothesis.  I'll discuss those phenomena and get into a detailed analysis of the earnings vol. But first...

... There has been some chatter about reduced expectations int earnings and the such, some of it based on an idea that customers will hold off on purchases until the new version of products coming out before Christmas. Let's read a snippet of that news, and then get look to the Charts Tab, and finally the earnings vol analysis and trading trends.

---
Guidance
The consensus estimate is $10.36 for EPS and $37.18B for revenue, according to First Call. Apple has a history of posting better-than-expected results, which is why the tempered view on Wall Street comes as a bit of a surprise to some. Analysts say consumers may be holding back on purchasing iPhones now in order to wait for the next product upgrade, which appears to be coming by the end of the year. Apple guided Q3 EPS to "about" $8.68 on revenue of "about" $34B.
[...]

Analyst Views
Goldman Sachs believes the iPhone 5 will be launched on time for the all-important December quarter, and the firm continues to believe the typical pre-launch pause in demand will depress legacy iPhone sales before then. Goldman expects Q3 revenues of $35.54B and EPS of $9.98. The firm believes buy-side expectations for iPhone units are already very conservative for Q3 at 26M-27M units -- relative to its 28M unit estimate. The firm's conservatism on legacy iPhone sales extends into the September quarter but is followed by an above-consensus December quarter as iPhone 5 shipments ramp.

Source: Seeking Alpha via Yahoo! Finance; Earnings Preview: Apple , written by theflyonthewall.
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There's also a colossal lawsuit that AAPL has brought against Samsung and then the normal story surrounding earnings. I've included a link to some stories, for those interested.  I also note some stories focusing on iPad (rather iPhone) sales, though I did not include those headlines.

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Apple's $110B Cash Stash: Here's What It Can Buyat Bloomberg (Tue 12:59PM EDT)

Apple Can't Save Earnings Season, But it Can Ease the Painat The Wall Street Journal (Tue 12:58PM EDT)

Will Samsung's Galaxy Threaten the iPhone?at Motley Fool (Tue 12:55PM EDT)

The Apple-Samsung Trial: What Samsung Will Attempt to Proveat The Wall Street Journal (Tue 12:53PM EDT)

Source: Yahoo! Finance. Read the stories.
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Let's start with the Charts Tab (one year), below. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).



On the stock side, we can see the run up since the start of 2012 which peaked in early Apr and since then has stopped. The last several trading days have fallen into a sort of quiet period, which isn't uncommon for a stock heading into earnings.

On the vol side, we can see how the implied bottomed out in late Jun and has risen to now over 35% since then as earnings approach. Interestingly, while the vol did get pretty low, the realized stock movement has been below even that low water mark. As of this writing, the HV20™ is 19.06% and the HV10™ is 14.41%.

Before we get to the earnings vol stuff with comps, I've included some snippets from a great article from Reuters yesterday (yes, they used Livevol® data). The most interesting part of the article focused on the type of option volume. This is a little weird, b/c I'm quoting myself, but work with me...

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Apple's short-term options -- known as weeklys -- have been popular among retail and institutional investors. These contracts have recently accounted for an unusually large percentage of its option volume, pointing to increased speculation, possibly among investors who can play the stock at a relatively low cost compared with standard monthly options.

[...]

At the beginning of January 2012, weekly options accounted for about 11 percent of daily option volume in the S&P 500 index and 33.3 percent in Apple, according to data from options analytics firm Livevol in San Francisco.

But as of July 19, weekly options represented 17 percent of the average daily volume of the SPX and 48 percent in Apple, Livevol data showed.

"Option volume in the weeklies as a proportion of total volume has increased dramatically in both SPX and Apple and in similar percentage increases," said Ophir Gottlieb, managing director of Livevol.

"This could point to more speculative option trading if you consider shorter-term positions to be more speculative in nature," Gottlieb said.

He said a potentially troubling difference between Apple and the S&P 500 since the start of 2012 is the change in average daily volume. While SPX average daily options volume is down 7 percent, Apple options volume is up 50 percent, with weeklys accounting for 80 percent of the rise.

Apple options beckon eager investors, written by Doris Frankel.
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That weekly volume is a bit scary for the reason I stated, above. If this is mostly retail flow purchasing options, then we could see a more volatile day than expected (at least at the open). Let's get into the meat of the earnings and vol analysis. I've included details from the last eight earnings cycles below. First, the stock price moves looking at the mean and median in both actual and absolute terms.



We can see that in 4/7 cycles, AAPL stock has risen the day after earnings, with a measure of middle of about 2.0% in actual terms, and ~3.4% in absolute terms. In English, if we want to use the last seven quarters as a proxy, a best guess would be that AAPL will move ~3.5% tomorrow off of the news (up or down), which at the current price would be +/- $21.05. NB: I don't think that's a very meaningful number and certainly wouldn't use it for much of a proxy.  I also note that the Options (the weeklies) reflect a ~$33 move.

Next, let's look at the straddle values (ATM) one before and one day after earnings.



We can see that selling the ATM straddle the day before earnings and buying it back the day after was a winner 4/7 quarters (but a loser the last three quarters), for a return with measure of middle ~12.5%. I do note that for the last three quarters the straddles have moved the least (in absolute terms) of the last seven and all were positive. In English, the stock moved more than the straddle implied for the last three quarters, but the deviation from the straddle value reflected by the options market was less than the prior four quarters. Said in a meaningful way, the stock has moved much more in the last three cycles than the four prior. We can see that by looking to the stock changes, above.

Finally, let's look to the IV30™ the day before earnings for the last seven cycles.



We can see a rather large range of [27.51%, 42.49%]. I do note that the last three quarters averaged more than 35% vol, where the three quarters prior averaged ~28%. The IV30™ as of this writing is 35.27%, right in line with the average over the last seven quarters and the last three quarters.

OK, so what?...

Over the last three quarters vol has increased, the earnings move has has been bigger and now we see an explosion in the trading of the short-term weekly options. VIX has been up of late, the market has been down. AAPL has been in a relatively quiet period of late. This earnings release has the makings of a relatively large mover using the most recent data... but then again, does that data matter?

My best guess is that AAPL moves more than +/- $20 tomorrow, but I (obviously) have no idea.  What I do know is that short-term positions are growing and make up a massively larger proportion of total volume than even six months ago (two earnings cycles ago). That could mean a volatile open (at the very least).

I've included the Options Tab, below. The weekly ATM straddle is priced at ~$33, so my guess that the stock will move more than +/- $20 is rather trite in all frankness.



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Cobalt Int'l Energy (CIE) - Elevated Vol May Point to Something More than Earnings Soon


CIE is trading $22.99, down 0.7% with IV30™ up 1.3%. The LIVEVOL® Pro Summary is below.



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Cobalt International Energy, Inc. is an independent, oil-focused exploration and production company with a salt prospect inventory in the deepwater of the United States Gulf of Mexico and offshore Angola and Gabon in West Africa.

This is an elevated vol note in a stock that has earnings approaching. It's obviously not curious why vol is elevated, but rather, how much it's elevated that caught my attention.

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



On the stock side we can see the gap up on 2-10-2012. The price rose from $23.90 to $31.68 or 32.6%. Here's the news behind that move:

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NEW YORK (AP) -- Shares of oil producer Cobalt International Energy Inc. surged 36 percent Friday after the company released a study showing that one of its wells might be far more productive than many analysts thought.

THE SPARK: On Thursday, Cobalt International released the results of test drilling at the company's "Cameia-1" well off the coast of Angola. Cobalt International said the well yielded "exceptional results" and will be able to produce 20,000 barrels of oil per day.

THE BIG PICTURE: The Cameia-1 well is just the beginning of Cobalt International's efforts to drill oil off the western coast of Africa. The company said it has plans to drill even deeper wells now that Cameia-1 has proven to be so productive.

When a well proves to be surprisingly productive, it's like winning the lottery for an oil company. Firms like Cobalt International invest in drilling leases and exploratory wells without knowing how much fuel they will produce.

Source: AP via Yahoo! Finance; Cobalt International up 36 percent on well results.
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The firm released earnings a couple of weeks later and fell on the results. Here's that news:

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Cobalt International Energy Inc. (CIE), the deep-water oil explorer whose largest investors include Goldman Sachs Group Inc. (GS), fell the most in two months after posting a fourth-quarter loss almost twice the average estimate.

The shares declined 6.1 percent to $31.97 at the close in New York. Before today, the stock had more than doubled in the past year as Cobalt announced discoveries off the coast of Africa and in the Gulf of Mexico, including a field the company said may hold 1 billion barrels of crude.

Cobalt’s loss widened to $51.1 million, or 13 cents a share, from $29.8 million, or 9 cents, a year earlier, the Houston-based company said today in a Business Wire statement. The average of 10 analysts’ estimates compiled by Bloomberg was for a per-share loss of 7.4 cents.

Source: Bloomberg via Yahoo! Finance; Cobalt Tumbles on Bigger-Than-Expected Loss: Houston Mover, written by Joe Carroll.
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Even with that news, we can see that the stock found a quiet period following earnings. Fast forwarding to today, we can see again that the stock is in a sort of quiet period -- it's been declining, but steadily and without any gaps.

Turning to the vol side we can see a number of phenomena:

1. The implied has been rising since 6-22-2012, from 61.21% to 109.60% or 79%. The 52 wk range in IV30™ is [46.41%, 111.52%], putting the current level in the 96th percentile.

2. As the implied has been rising, the short-term and long-term historical realized vols have been declining. In English, the stock has been less volatile of late while the options have been pricing in more vol. The next earnings date for CIE is in early Aug, so the rising vol makes sense. However, the vol hasn't been rising since 6-22-2012 solely b/c of earnings and I don't believe it's at an annual high solely b/c of earnings either. For the last seven earnings cycles the vols on the day before the news have been:

Nov 2010: 58%
Feb 2011: 51%
May 2011: 43%
Jul 2011: 55%
Nov 2011: 79%
Feb 2012: 84%
Apr 2012: 62%
Jul 2012: 109%

3. The annual high in the implied was reached outside of an earnings event as the numbers above confirm.

It's those numbers from the last several earnings reports that caught my attention when compared to the current implied. Tricky...

Let's turn to the Skew Tab to examine the line-by-line and month-to-month vols.



We can see the rather substantial vol difference between the front three months. Given that earnings are approaching, the difference between the front and month 2 makes sense -- the difference between months 2 and 3 though seems a bit large. The near-term risk feels elevated beyond an earnings report.

Finally, let's turn to the Options Tab, for completeness.



Across the top we can see the monthly vols are 112.83%, 93.39% and 84.82% for Aug, Sep and Oct,  respectively. The earnings date listed in there is just a projection and I believe it's a touch early. In any case, something is coming for CIE, quite possibly a report on a well that could have an impact like we saw in Feb of this year (note that there is two-tailed risk, not just upside potential).

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