Wednesday, May 21, 2014

* Netflix (NFLX) - 5 Years of History, Evolution & Everything You Want to Know. One Day of Risk Analysis: Is the Option Market Wrong, Again?

NFLX is trading $384.07, up 3.3% with IV30™ up 0.6%. The Symbol Summary is included below.

Provided by Livevol

UPDATE 5-23-2014
NFLX continues its incredible run, now up $80 in less than two weeks as the implied volatility drops.

Provided by Livevol

UPDATE 5-30-2014
NFLX further continues its incredible run, now up $97 in three weeks.

Provided by Livevol

This is a stock and volatility note, as NFLX has risen $65 (20.5%) in 10 days (updated 5-30-14: $97 and 30.5% in twenty days).  Here's the short-term stock chart (ending: 5-23-2014 midday).

Provided by Charles Schwab optionsXpress

I have written compulsively about NFLX.  I love the product and I love the resiliency of management.  They are taking on an industry which hates pretty much everyone, and certainly has a "holier than though" approach to new comers.

Well, NFLX has punched them in the face, broken their noses, then been pushed around, then got up and punched them in the face again, harder...a lot harder.

The Giant killer is now a giant.  But here comes competition.

I have included all of my posts on NFLX below.  I know reading them all is laborious (to say the least), so just peruse the headlines, in particular the ones in yellow.  Headlines really do tell the story.

NFLX - Earnings Preview: My Bologna Has a First Name: c.o.m.p.e.t.i.t.i.o.n.; A Reckoning is Coming with Earnings.

NFLX - The Reckoning is Coming with Earnings. Here's the Risk in the Stock Right Now.

NFLX - How the Option Market Totally Blew It... And We Knew it a Month Ago. Momentum Stocks are Deflating... Right Now.

NFLX - Unprecedented Low Risk?... How Many Times Will the Option Market Prove Wrong? And is it Right This Time?

NFLX - Earnings Preview: "Less Risk in This Firm Now than In the Last Two-Years." Do You Agree? I'm Not Sure I Do.

NFLX - The Giant Killer is a Giant, But the Option Market is Still Asleep. What Happens When it Wakes Up?

NFLX - This Newly Minted Giant Has a Big Secret; But It's in the Option Market...

NFLX - How a New Industry Giant Shows 'Cheap' (?) Volatility into Earnings; Did You Know This?

Netflix (NFLX) - The New Giant -- Stock Near All-time High but Volatility Collapses to Multi-year Low

NFLX - Is this the Most Powerful Firm in Entertainment? Some Things I Bet You Didn't Know... But Want to.

NFLX - Vol Nears Multi-Year Lows as Stock Explodes; Hollywood Take Note -- Another Shot Across Major Distributor’s Bows

OK, let's get into the story today.  First, the stock chart (five-years) is included below.

Provided by Charles Schwab optionsXpress

There are five parts to this stock story: I've drawn in those arrows and gone back 5-years to hyper focus on the path that the firm as a whole has taken.

1. It was a baby stock, with a big idea, that was valued relatively low(~$2B). Then the company exploded in value, up nearly 10-fold, before a horrendous run.

2. That implosion actually brought into question solvency.  The stock cratered in 2012. Then a quiet period, where NFLX the entity was doing "something" but the equity market was not.

3. And then, my favorite part of the story, NFLX proved to the distributors that without NFLX, their TV shows might die (see "New Girl" and "Breaking Bad.").  In fact, a quote from Vince Gillighan, the creator of "Breaking Bad" reads:

"I am grateful as hell for binge-watching. I am grateful that AMC and Sony took a gamble on us in the first place to put us on the air. But I'm just as grateful for an entirely different company that I have no stake in whatsoever: Netflix. I don't think you'd be sitting here interviewing me if it weren't for Netflix. In its third season, Breaking Bad got this amazing nitrous-oxide boost of energy and general public awareness because of Netflix."

Yeah, NFLX stood up and not only showed the distributors it had a place at the table, but that there's a chance it was the one sitting at the head of the table.  Good for them.

But there are two more pieces to the stock ride.

4. After that meteoric resurrection, came the first MOMO bubble deflation.  NFLX dropped from $458 down to $299.50 in two-months.  Yikes.

5. And now, finally, the last part of the stock story, NFLX has exploded again, all the way back up to $385, with $65 of that run coming in 10 calendar days.

So, with all that it's pretty clear that NFLX is a very volatile stock, right?  Actually, the option market poo-poos that idea.

Let's turn to the IV30™ chart (two-years) in isolation, below.

Provided by Livevol

As the latter half of this stock story has been unfolding, we can actually see that the implied volatility (forward looking risk as reflected by the option market) has been declining.  In fact, if you look back at my posts on NFLX (the titles above), I basically just repeat myself time and time again, "Is volatility too low? Is the option market wrong?"... etc.

So far, the option market has been wrong.  For all the good that NFLX has done, it has not been a smooth ride.  The question now is, with the stock up $65 in 10 days, should implied volatility be this low (see the little yellow circle at the far right of the chart above)?

I really don't think so... again...

The Skew Tab snap (below) illustrates the vols by strike by month.

Provided by Livevol

I've included both the weekly options expiring in three days and the monthly options expiring Jun 20th.  Both skews show a parabolic shape reflecting two-tailed risk (upside and downside).  While that's not "normal" skew shape in general, for NFLX, it would be absurd not to see that shape.  I mean, is there any argument that there is two-tailed risk here?

To read more about skew, what is and why it exists you can click the title below:
Understanding Option Skew -- What it is and Why it Exists.

Finally, the Options Tab is included below.

Provided by Livevol

Well, if we look at the $385 strike in the Jun monthly options, we can see the option market reflects a stock price range of [$352, $418] (ish).

  • If you believe the stock will be outside that range on expiry or any date before then, then you think the volatility is too low.
  • If you believe that range is too wide, and that the stock will definitively be in that range on expiration, then you think volatility is too high.
  • If you're not sure, and can make an argument for either case, then you think volatility is priced just about right.

This is trade analysis, not a recommendation.

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