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.

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.

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.

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.

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...

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.

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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