Thursday, June 26, 2014

* Twitter (TWTR) - How the Low Volatility Effect is Absurd; and Anyone Who Believes it is Wrong.

Share on StockTwits

TWTR is trading $41.75, up 5.8% with IV30™ up 6.8%. The Symbol Summary is included below.

Provided by Livevol

This is a volatility and stock note and calls back upon an article I posted on 6-17-2014:
How the Option Market is Totally Wrong; Proof that Market Volatility Has Lost Its Mind.

In that post I pointed out with facts, that while the option market has been pricing in low volatility (forward looking stock price movement), it has been dead wrong.

I postulated "has the option market fallen into a dangerous malaise?" The answer is a resounding yes. While volatility is often times (most times) associated with downside risk, if there's anything we can learn from the current market it's that, upside moves can be as abrupt and as large as downside moves.

Nothing in the stock charts in many of the MOMO names point to equilibrium; nothing in those charts points to a settled equity value, and nothing in those charts points to rational reasoning of malaise. Today, we see yet again, there is way more risk in the stock prices than the option market reflects... and to those feeling like stock prices in the MOMO names are in equilibrium, you're wrong.  You just are...

Let's turn to the all-time stock chart, below.

Provided by Charles Schwab optionsXpress

We can see the rapid rise in TWTR shares after IPO to an all-time high of $74.73, then a collapse back down below the first public trade to $29.51.  Since that time, however, TWTR has risen more than 40% in just six weeks.  And here's the thing, while the downside risk has been muted for essentially the entire market, the upside has not been.  I'd say a 40% gain in six weeks points to that.

Let's turn to the IV30™ chart in isolation, below.

Provided by Livevol

The implied volatility is the forward looking risk in the equity price as reflected by the option market (IV30™ looks forward exactly 30 calendar days). We can see how the "perceived" risk has been collapsing.  In fact, I have even drawn in where the stock hit its all-time low.

The decline from that point is in the face of a 40% rise. You tell me, is that low stock volatility?... OK, never mind, I'll tell you.  No, it's HUGE volatility, and the option market continues to be wrong.

Finally, the Options Tab is included below.

Provided by Livevol

Using the at-the-money (ATM) straddle in the July monthly options we can see that the option market reflects a price range of [$38.40, 45.60].
  • 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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