Volatility Trading Digest - Seasonal Strategy
Volatility Trading Digest - Seasonal Strategy
While crude oil trending is higher the same cannot be said for natural gas as it continues lower on warmer than usual winter weather forecasts. This is not positive for the large oil and gas companies with significant natural gas operations.
With seasonal strength being reflected in crude oil, gold and technology we suggest long positions in these sectors that allow for continuing sporadic rapid declines on more bad the news from Europe. In the event the news turns more favorable, position size can easily be increased.
Many companies are still scheduled to report third quarter earnings and we have one interesting idea in this category below right after an update.
Here is the result of an unusual long put spread from a suggestion we made in September and then reaffirmed again in October.
Green Mountain Coffee Roasters Inc. (GMCR)
This company in the specialty coffee and coffee maker business reported .47 per share last Wednesday while the estimate was for .48 per share. On Thursday, the stock gaped lower and closed down 26.13 after reporting declining revenue, and we suspect it was also related to the previous high valuation, along with their heavy emphasis on non-GAAP accounting and the large short interest.
We suggested a long December 60 put with a short December 50 put spread. We booked the suggestion for a 2.02 debit. On Friday, the spread closed at 8.42 and since there now appears to be some short covering we suggest closing it out and booking the 317% gain.
Quarterly Earnings Report
Salesforce.com (CRM)
CRM offers a technology platform for customers and developers to build and run business applications and provides customer relationship management (CRM) services to various businesses and industries worldwide.
They are scheduled to report third quarter earnings on Thursday after the close. The consensus estimate is .31 and the whisper estimate is .33, while the estimate based upon GAAP is .03. Yahoo! Finance show the price-to-earnings multiple based upon GAAP earnings of 634 with the forward earnings price-to-earnings multiple of 73 and a price-to-earnings growth ratio at 4.17. This is another company relying heavily upon non-GAAP accounting to report its progress.
The current Historical Volatility is 46.83 and 41.32 using the Parkinson's range method, with an Implied Volatility Index Mean of 66.84, up from 64.42 last week. The IV/HV ratio is 1.43 and 1.62 using the range HV. The put-call ratio at 1.50 is bearish. Friday's volume was 21,095 contracts compared to the 5-day average of 16,480 contracts.
Since the stock is in the upper part of a 110-140 range an iron condor was considered, but the long put part of the combination is too expensive in implied volatility terms, so here is the upper call half of an iron condor with a far out- of -the money short put combination as an alternative.
Since the options expire on Saturday November 19, there is only one day of trading after they report earnings so this one will require immediate attention. In the event the stock closes below 110 on Friday, be prepared to take the stock by assignment and then sell a call against the long stock. In this event, the basis in the stock will be 107.43 and below previous support at 110. On the other hand, if the stock trades higher than 140 after reporting close the short call spread.
Las Vegas Sands Corp. (LVS)
LVS operates casinos in Las Vegas, Macau, and Singapore. LVS reported .55 per share on October 27 and the stock rose to just below 50 before retreating in what appears to have been a post earnings sell off. Then on Friday, it turned up once again.
The current Historical Volatility is 57.46 and 46.57 using the range method, with an Implied Volatility Index Mean of 45.66, down from 46.07 last week. The IV/HV ratio is .79 and .98 using the range method HV. The put-call ratio at .45 is bullish. Friday's volume was 50,204 contracts compared to the 5-day average of 49,980 contracts. This is a well-managed company and we want to take advantage of the still relatively high-implied volatility that is now trending lower. Although without volatility edge, consider this put sale as post- earnings reversal trade.
Be prepared to take the stock by assignment in the event it closes below 45 on Friday. In that event, the plan is to sell calls against the stock position.
Seasonal Crude Oil
It has been a long time since the WTI futures term structure has been in backwardation, when the deferred contacts are selling at lower prices than the near term contracts. Usually this is associated with rising prices and indicates near term demand is high. As we noted in the (GSG) section of the market review the 90-day roll is -.36 lower than the cash. If this continues, there is an edge when the near term contracts expire and they are rolled into to the next month. Based upon the strong current uptrend and the backwardation consider this idea.
Flat Skew Makes Upside on USO Attractive
United States Oil Trust (USO)
The demand for oil during the past two months has increased and now many market pundits are suggesting $100 dollar oil prices look likely.
The US Department of Energy released their weekly inventory report reflecting higher demand especially for distillate fuel such as diesel and heating oil. A large inventory drawdown for distillate fuel has put a drain on availability as inventory levels are at the bottom end of the range for this time of year. Distillate demand increased by 4%, and could create a significant imbalance moving into the winter for US fuel oil customers.
Despite the increase in demand, the USO has not yet broken technical resistance around 39. A break above the 50-day moving average near 37.70 was positive, but USO needs to clear the recent highs near 39.50. A close above this level could lead to a test of resistance near the 200-day moving average near 47.00.
The current Historical Volatility is 30.89 and 26.28 using the range method, with an Implied Volatility Index Mean of 39.60, up from 38.55 last week. The IV/HV ratio is 1.28 and 1.51 using the range method HV. The put-call ratio at .40 is bullish.
A call spread on USO would take advantage of an upside breakout, while providing a defined risk.
Use a close back below support at 36 as the stop.
All of the suggestions above are based upon last Friday's closing prices using the mid price between the bid and ask. On Monday, the option prices will be somewhat different due to the time decay over the weekend and any price change.
Summary
The combination of improving market breadth along with seasonal strength has improved the outlook for equities going into the year-end despite continuing expectations for more negative news from Europe. In the event there is some good news from Europe, the pace of advance, for both equities and commodities will most likely increase.
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