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Posts Tagged ‘Earnings Announcement’

Follow-Up on AAPL Earnings-Announcement Strategy

Wednesday, November 6th, 2013

Last week I told you about a spread I had placed on Apple (AAPL) just prior to their earnings announcement. I closed out that spread this week, and there was a learning experience that I would like to share with you.

Please continue reading down so you can see how you can come on board as a Terry’s Tips subscriber for no cost at all while enjoying all the benefits that thinkorswim incentive offers to anyone who opens an account with them.

Terry

Follow-Up on AAPL Earnings-Announcement Strategy: Last Monday, prior to AAPL’s earnings announcement, I bought a diagonal spread, buying Jan-14 470 calls and selling the weekly Nov1-13 525 while the stock was selling just about $525. I made this trade because I felt good about the company and believed the stock might move higher after the announcement. As it worked out, I was wrong.

I paid $62.67 for the Jan-14 470 call and sold the Nov1-13 525 call for $17.28, shelling out a net $45.39 ($4539) for each spread. (Commissions on this trade at thinkorswim were $2.50). The intrinsic value of this spread was $55 (the difference between 525 and 470) which means if the stock moved higher, no matter how high it went, it would always be worth a minimum of $55, or almost $10 above what I paid for it. Since the Jan-14 calls had almost three more months of remaining life than the Nov1-13 calls I sold, they would be worth more (probably at least $5 more) than the intrinsic value when I planned to sell them on Friday.

So I knew that no matter how much the stock were to move higher, I was guaranteed a gain on Friday. If the stock managed to stay right at $525 and the Nov-1 525 call expired worthless (or I had to buy it back for a minimal amount), I stood to gain the entire $17.28 I had collected less a little that the Jan-14 call might decay in four days.

In the after-hours trading after the announcement, the stock shot up to the $535 area and I was feeling pretty good because I knew I was assured of a profit if the stock moved higher. However, the next morning, it reversed direction and traded as low as $515. I wasn’t feeling so great then, although I still expected to make a profit (albeit a smaller one).

On Thursday, the stock rose to about $525, just where it was when I bought the spread on Monday. There was still $2.50 of time premium remaining in the Nov1-13 call which I had sold, so I was tempted to wait until it was due to expire the next day so I might pick up another $250 per spread when I sold it. However, I decided to sell it at that time.

I sold the spread for $56.25, gaining $10.86, or $1076 per spread which had cost me $4539 on Monday. That worked out to a 21% gain for the four days.  I was happy with that result.

On Friday, AAPL fell back to about $517 at the close. The spread that I had sold for $56.25 was trading at about $53. I still would have made a profit, but it would have been much lower than the one I took on Thursday.

The lesson here is that when the stock is trading very near the strike price of your short call when you have a spread like this (either a diagonal or a calendar spread), it is a good idea to sell it rather than waiting until expiration day of the short option. While you give up some of the potential gain if the stock were to remain absolutely flat, you risk doing worse if the stock were to move more than moderately in either direction.

It is better to sell your diagonal spread whenever the strike price of your short option is very close to the strike price rather than waiting until the last minute to try to squeeze out every penny of decay that might be there. In this case, I was wrong about the stock moving higher – it fell about $10 and I still made over 20% on my investment for a single week.

An AAPL Earnings-Announcement Strategy

Wednesday, October 30th, 2013

Today I would like to share with you an options investment I made yesterday, just prior to the Apple (AAPL) earnings announcement. While it is too late to make this same investment yourself, you might consider it three months from now when announcement time comes around again, or with another company that you feel good about.

Please continue reading down so you can see how you can come on board as a Terry’s Tips subscriber for no cost at all while enjoying all the benefits that thinkorswim incentive offers to anyone who opens an account with them.

Terry

 

An AAPL Earnings-Announcement Strategy: Approximately every 90 days, most public companies announce their latest quarterly earnings. Just before the announcement day, things get interesting with option prices. Since stocks often make big moves in either direction once earnings (and other numbers such as gross sales, margins, and future guidance) are announced, option prices get quite expensive, both for puts and for calls.

For people who like to collect high option premiums (i.e., selling expensive options to someone else), this pre-announcement period seems like a great opportunity provided I have a feeling one way or the other about the company. I had a good feeling about AAPL this month. I wasn’t sure what earnings might be (beware of anyone who says he is sure), but I thought the company was fairly priced, and I think the huge stash of cash they are sitting on provides some protection against a large drop in the stock price.

When a situation like this occurs (where I like a company and earnings are about to be announced), one of my favorite strategies is to buy a deep in-the-money call on the company, a call that has a few months of remaining life, and sell an at-the-money call in the shortest-term option series that expires after the announcement day.

On Monday morning, AAPL was trading about $525. I bought a diagonal spread, buying Jan-14 470 calls and selling Nov1-13 525 calls (AAPL has weekly options available, and the Nov1-13 calls would expire on Friday, November 1st , four days after the announcement after the close on Monday.

I paid $62.67 for the Jan-14 470 call and sold the Nov1-13 525 call for $17.28, shelling out a net $45.39 ($4539) for each spread. (Commissions on this trade at thinkorswim were $2.50). The intrinsic value of this spread was $55 (the difference between 525 and 470) which means if the stock moved higher, no matter how high it went, it would always be worth a minimum of $55, or almost $10 above what I paid for it. Since the Jan-14 calls had almost three more months of remaining life than the Nov1-13 calls I sold, they would be worth more (probably at least $5 more) than the intrinsic value when I planned to sell them on Friday.

So I knew that no matter how much the stock were to move higher, I was guaranteed a gain on Friday. If the stock managed to stay right at $525 and the Nov-1 525 call expired worthless (or I had to buy it back for a minimal amount), I stood to gain the entire $17.28 I had collected less a little that the Jan-14 call might decay in four days. A flat market would net me about a 36% gain on my investment, and any higher price for AAPL would result in at least a 25% gain.

After a company makes its announcement, all option prices tend to fall, especially in the shortest-term series that expires just after the announcement. However, deep in-the-money options like the one I bought derive most of their value from being so deep in the money, and they generally do not fall nearly as much as shorter-term, nearer-the-money options.

On the downside, the stock could fall at least $20 before I would incur a loss. Since the delta of the Jan-14 470 call was 80, if the stock fell $20, my long call might fall about $16 ($20 x .80). That would still be less than the $17.28 I collected from the 525 which would expire worthless so I would still make a gain.

Actually, as the stock falls in value, delta for an in-the-money call gets lower, and the Jan-14 call would fall by less than $16. The stock could probably go down at least $25 before I lost money with my original spread.

In the event that AAPL fell over $25 so I lost some money on the spread, since I like the company and it is now trading for only $500, I might want to hang onto my 470 call rather than selling it on Friday. I might sell another 525 (or other strike) call with a few weeks of remaining life, reducing my initial investment by that amount.

I like to make an investment that could make 25% or more in a single week if a company I like stays flat or goes higher by any amount after an announcement, and the stock can fall about 10% and I still make a gain. A more conservative investment would be to sell an in-the-money call rather than an at-the-money call. While the potential maximum gain would be less, you could handle a much greater drop in the stock value before you entered loss territory on the downside.

Barron’s Article Creates Great Buying Opportunity For Green Mountain Coffee Roasters

Monday, August 5th, 2013

This morning Green Mountain Coffee Roasters (GMCR) fell more than $2, apparently because of a negative article about the company published by Barron’s on Saturday.  I submitted an article to Seeking Alpha in which I argued that Barron’s had inappropriately used some statistics and made some faulty comparisons of GMCR’s p/e ratios and their competitors.

I’m not sure if my article really turned the market around, but in the first two hours after it was published, the stock went from being down $2 to being up $2.50, a swing of over $4.50  or well over 5%.

In this article I recommended buying a diagonal call spread which I will discuss today.

Read to the bottom of this letter to learn how you can become a Terry’s Tips Insider for absolutely no cost.

Terry

Barron’s Article Creates Great Buying Opportunity For Green Mountain Coffee Roasters

In this article I made a case that GMCR would move higher and that the Barron’s article had temporarily unfairly pushed the stock lower.   In a Terry’s Tips portfolio, we purchased the spread I recommended in the article for $10.93.  The natural price is now $12.15 so we have a paper profit of about 10% for the day.

I recommended making a fairly conservative options investment, buying Dec-13 well in-the-money calls at the 67.5 strike when the stock was trading about $78 and selling Aug2-13 weekly calls at the 77.5 strike.  I selected the Dec-13 series because implied volatility of those options (55) was lower than any other weekly or monthly series, and since the December expiration comes well after the next earnings announcement in late October or early November, IV is not likely to plummet after Wednesday’s announcement like the August, September, and October options will probably do.

IV of the Aug2-13 weeklies is a whopping 137, just the kind of options that we like to sell.

This diagonal spread should make an average of about 25% this week if the stock stays flat or goes up by any reasonable amount, and should only lose money if the stock falls by more than 7%.  This seems like a pretty good bet to me, and I have bought a large number of these spreads in my personal account.

How To Play The Seagate Technology Earnings Announcement This Week

Sunday, July 21st, 2013

The Google (GOOG) spreads I recommended last week resulted in average gains of 58% (after commissions) in Terry’s Tips actual portfolios.  Not a bad day.  The stock fell after the announcement just as we had guessed.

Read to the bottom of this letter to learn how you can become a Terry’s Tips Insider for absolutely no cost.

Terry

How To Play The Seagate Technology Earnings Announcement This Week

I have written a Seeking Alpha article explaining how I would play Seagate Technology (STX) this week:  How To Play The Seagate Technology Earnings Announcement This Week

There are many similarities between the situation in GOOG and Seagate.  I expect the stock to fall after the announcement, and have recommended to buy Aug-13 48 calls and sell Jul4-13 47.5 calls (a diagonal spread) which does best if the stock remains flat or falls.

Please read the entire Seeking Alpha article to get my full thoughts on the diagonal spread play and why I expect the stock will trade lower after the announcement.

A similar situation exists in Starbucks (SBUX) and I have recommended a less risky trade in that company – buying Aug-13 72.5 calls and selling Jul4-13 calls at a credit.  This spread will make money no matter how low SBUX might fall and only starts losing money if the stock moves about $2 higher.

Good luck if you do something this week in Seagate or Starbucks!

How to Play the Google Earnings Announcement This Week

Monday, July 15th, 2013

This week the earnings season starts in earnest. One of the most interesting companies reporting is Google, mostly because expectations seem to be sky-high and our Expectations Model predicts that there is a good chance the stock will fall after the announcement is made Wednesday after the market closes.

Read to the bottom of this letter to learn how you can become a Terry’s Tips Insider for absolutely no cost.

Terry

How to Play the Google Earnings Announcement This Week

I have written a Seeking Alpha article explaining how I would play Google this week:

How To Play The Google Earnings Announcement …

In the article I suggest buying a diagonal call spread with the long side in August at the 925 strike and the short side in the Jul-13 series at the 920 strike. I placed this spread in my own account today for a debit of $3.60 (in addition to the $500 maintenance requirement per spread, the total cost is about $860 per spread).

This spread should make a gain if the stock goes up by less than $30 (my article explains why I don’t think it will go up at all) or if it falls by less than about $50 (I think this is a possibility but a remote one).

Another possible spread would be to use the same strikes but buy Jul4-13 weeklies instead of the August series. You could do this for a credit of about $.90 which would lower you total investment to about $420 per spread after commissions (the $500 maintenance requirement less the amount of the credit). This spread would make a gain no matter how far the stock might fall (even if it fell to zero) but would start losing money once it rose by about $20 (again, an unlikely event in my opinion).

Another interesting spread would be to pick the strike price (or maybe more than one) where you think the stock might end up on Friday, and buy a Jul4-13 – Jul-13 calendar spread at that strike. It should cost you only about $200 per spread. You can’t lose more than that amount on the trade, and if the stock does end up very near the strike you picked, the spread might be worth $1000 or so. The entire $200 should not really be at risk because your Jul4-13 call should always be worth more than the Jul-13 call, although if the stock ends up at a big distance away from the strike you picked, it might be difficult to get the entire $200 back.

Please read the entire Seeking Alpha article to get my full thoughts on the diagonal spread play and why I expect the stock will trade lower after the announcement.

Good luck if you do something this week in Google!

How to Play the JP Morgan and Wells Fargo Announcements Friday

Tuesday, July 9th, 2013

While we were right on the direction that Accenture (ACN) would take after the earnings announcement (down), we missed how far it would drop (it fell 15% even though it beat earnings estimates). Our diagonal credit spread using calls would have made gains no matter how far it fell but we added a higher-strike calendar “just in case we were wrong about the direction.” That spread lost big-time, and has encouraged us to stick with our model and stop second-guessing ourselves.

Today I wrote a Seeking Alpha article discussing the only two companies with weekly options who announce this week – How to Play the JP Morgan and Wells Fargo Announcements Friday

In today’s report I will have a more thorough discussion of the option strategies I suggested in that article.

Terry

How to Play the JP Morgan and Wells Fargo Announcements Friday

The major point of the Seeking Alpha article was that both companies share similar historic patterns – they consistently beat estimates and the stock either changes very little or falls once earnings are announced. This time around, expectations are quite high for both companies (whisper numbers exceed estimates, and the stock has gone up about 20% since the last earnings announcement and hit new highs this week).

In short, both stocks are in for a likely drop in price after the announcement because some part is likely to disappoint (if not earnings, then maybe revenue, margins, or guidance). We have learned from experience that high expectations consistently result in lower post-announcement prices.

We are buying diagonal call credit spreads in both companies. These spreads will make gains if the stock trades lower by any amount, and will lose if the stock moves higher by a dollar or so (but we doubt that it will move in that direction).

We suggest waiting until late in the day on Thursday to make the trades because the stock often rises in expectation of a good announcement just prior to its being made (and these diagonal spreads should go for a larger credit).

With JP Morgan (JPM) trading at about $54.50, we would buy Jul-13 55 calls and sell Jul2-13 54.5 weekly calls which expire on Friday. Here is the risk profile graph for 10 spreads which could be sold for a $.02 credit right now (but this credit should be higher on Thursday if the stock is higher then):

JPM Risk Profile Graph

JPM Risk Profile Graph

If you were to buy 10 spreads, there would be a $500 maintenance requirement (less any credit you were able to get), and that would be your maximum possible loss (which would come about if the stock moved significantly higher). It can go up about $.50 before a loss should result (assuming that IV of the July options falls from 24 to 20 after the announcement). If there is a small downturn in the stock (our belief as to the most likely outcome), the spread could return as much as 50% before commissions. It is a small bet with limited possible gains (or losses).For Wells Fargo (WFC), we are buying Jul-13 43 calls and selling Jul2-13 43.5 weekly calls expiring on Friday. At the present time, this spread could be sold for a credit of $.10, although if the stock price moves higher by Thursday it should be able to be sold for more. Here is the risk profile graph:

WFC Risk Profile Graph

WFC Risk Profile Graph

If you buy 10 diagonal spreads, there would be a $500 maintenance requirement (reduced by the $100 you collect from the credit) for a net cost of $400 (which is also your maximum loss which would come about if the stock moves significantly higher).  If the stock stays flat, you would keep the $100 credit plus the remaining value of the Jul-13 43 call.  This is not a huge investment (or return) although it looks like there is a pretty good chance of a 25% gain less commissions for the day (this graph assumes that IV of the July options will fall by 5 after the announcement – it might not fall that much and the gain would be greater if the stock is flat).

How to Play the Accenture Earnings Announcement Thursday

Tuesday, June 25th, 2013

Only two companies with weekly options announce earnings this week, Nike (NKE) and Accenture (ACN), both announcing Thursday after the close.  We could not get a good read on NKE (expectations did not seem unusually high or low so we couldn’t get a good handle on the possible direction the stock might take).  Even worse, NKE has a history of very large percentage changes after announcing, so if we were wrong on our directional guess, we could be in big trouble.ACN is a little more hopeful, and we will place a PEA Play (Pre-Earnings Announcement) on it either Wednesday or Thursday.

Terry

How to Play the Accenture Earnings Announcement Thursday

Accenture was founded in 1995 and is based in Dublin, Ireland.  It provides management consulting, technology, and business process outsourcing services worldwide.   Here are the numbers for ICN for the last four announcements:

ACN Whisper Numbers

ACN Whisper Numbers

The company met or beat estimates every quarter but once, and that time the stock fell 3.1% after the announcement. The stock moved higher from about $75 after the last quarterly announcement to a new high of $84.23 four weeks ago but has fallen back to about $79.80 since that time, suggesting that expectations have receded a bit.  RSI is at 44, in a neutral state.Insiders sold 16.8% of their holdings (388,854) over the last six months, a little on the high side, while institutions added 566,683 over the last quarter, a bullish signal (although on a base of 650 million shares outstanding, these numbers are not terribly significant).

The company sports a forward p/e of 17.11 which does not seem too high considering that it has maintained a steady growth of revenues and earnings for many years.  The stock has doubled in value over the past 2 ½ years.  It pays a 2% dividend which should help ward off a very large drop in the stock price.

Bottom line, in spite of whisper numbers exceeding estimates by a fair margin, expectations do not seem terribly high, especially with the recent drop in the stock price.  The company has been quite consistent in beating estimates, so it seems unlikely that there should be a big drop in the stock price after the announcement.  On the other hand, with the whisper numbers higher than estimates, there seems to be only a small chance of a big run-up in the stock.

This is the risk profile graph for two diagonal spreads (10 contracts eac), buying July 82.5 calls and selling Jun4-13 80 calls for a credit ($.40 as I write this) and buying July 75 puts and selling Jun4-13 77.5  puts for a small debit ($.05 as I write this), incurring a $2500 maintenance requirement,  assuming that IV of the August options falls by 3 after the announcement:

ACN Risk Profile Graph

ACN Risk Profile Graph

It will be interesting to see how this sugars out at the close on Friday when we will most likely close out all the positions.

How to Make a Portfolio of Calendar Spreads Either Bearish or Bullish

Monday, June 17th, 2013

Last week our string of 12 consecutive winning PEA Plays (Pre-Earnings Announcement) was broken, not because our model guessed wrong on where the stock (LULU) would go after the announcement (down, as it did), but because the CEO announced her retirement and the stock fell almost 20% on that news (the company actually exceeded estimates on earnings, revenues, and guidance but the retirement news overshadowed that good news).  Our option positions were set up to handle a 7% drop and still make a gain, but we could not handle a 20% drop.

Interestingly, our loss came about not from our basic diagonal spread (where we would have made money in spite of the huge drop) but from the insurance calendar spreads we placed “just in case we were wrong” about the direction the stock would take.  If we had had more faith in our model, we would not have made the insurance purchase, and we would not have suffered a loss.

Our loss on LULU was slightly greater than the average gain we made on the 12 previous PEA Plays, so while it was an unpleasant setback, it was not devastating.

Terry

How to Make a Portfolio of Calendar Spreads Either Bearish or Bullish: 

At Terry’s Tips, we use an options strategy that consists of owning calendar (aka time) spreads at many different strike prices, both above and below the stock price. A calendar spread is created when you buy an option with a longer lifespan than the short option that you sell against your long position with both options at the same strike price. We also use diagonal spreads which are similar to calendar spreads (except that the strike prices of the long and short sides are different). 

We typically start out each week or month with a slightly bullish posture since the market has historically moved higher more times than it has fallen.  In option terms, this is called being positive net delta.  Starting in May and extending through August, we usually start out with a slightly bearish posture (negative net delta) in deference to the “sell in May” adage. 

Any calendar spread makes its maximum gain if the stock ends up on expiration day exactly at the strike price of the calendar spread.  As the market moves either up or down, adding new spreads at different strikes is essentially placing a new bet at the new strike price.  In other words, you hope the market will move toward that strike.

If the market moves higher, we add new calendar spreads at a strike which is higher than the stock price (and vice versa if the market moves lower).  New spreads at strikes higher than the stock price are bullish bets and new spreads at strikes below the stock price are bearish bets.

It does not make any difference whether puts or calls are used for a calendar spread – the risk profile is identical for both.  The key variable for calendar spreads is the strike price rather than whether puts or calls.  In spite of that truth, we prefer to use puts when buying calendar spreads at strikes below the stock price and calls when buying calendar spreads at strikes above the stock price because it is easier to trade out of out-of-the-money options when the short options expire.

If the market moves higher when we are positive net delta, we should make gains because of our positive delta condition (in addition to decay gains that should take place regardless of what the market does).  If the market moves lower when we are positive net delta, we would lose portfolio value because of the bullish delta condition, but some or all of these losses would be offset by the daily gains we enjoy from theta (the net daily decay of all the options).

Another variable affects calendar spread portfolio values.  Option prices (VIX) may rise or fall in general.  VIX typically falls with a rising market and moves higher when the market tanks.  While not as important as the net delta value, lower VIX levels tend to depress calendar spread portfolio values (and rising VIX levels tend to improve calendar spread portfolio values).  

Once again, trading options is more complicated than trading stock, but can be considerably more interesting, challenging, and ultimately profitable than the simple purchase of stock or mutual funds.

Update On LULU Trades

Friday, June 7th, 2013

Yesterday I sent out suggested trades for LULU’s Monday earnings announcement.  The stock has rallied over $2.50 since then, and we have raised our strike prices by 2 ½ and placed the following trades today:

 

June 7, 2013 Trade AlertPEA Picker  Portfolio – limit orders


LULU announces earnings after the close on Monday and we will get these orders in today, committing a little over half our money:

 

BTO (buy to open) 10 LULU Jul-13 82.5 calls (LULU130720C82.5)

STO (sell to open) 10 LULU Jun2-13 80 calls (LULU130607C80) for a debit limit of $.25  (buying a diagonal)

 

BTO 5 LULU Jul-13 85 calls (LULU130720C85)

STO 5 LULU Jun2-13 85 calls (LULU130607C85) for a debit limit of $1.37  (buying a calendar)

 

Happy trading.

 

Terry

 

 

How to Play the Lululemon Athletica Earnings Announcement

Thursday, June 6th, 2013

This article was submitted to Seeking Alpha but was declined because it focused on options.  I thought you might like to see it.

This quarter’s earnings season is winding down.  Only one company with weekly options available, Lululemon Athletica (LULU) is due to report next week.  (I restrict my analysis to companies with weekly options because they are the most actively-traded and popular, and I often employ the weekly options in my trading.)  LULU reports on Monday, June 10 after the closing bell.

LULU is a high-end retailer of fitness apparel including fitness pants, shorts, tops, and jackets for healthy lifestyle activities, such as yoga, running, and general fitness. Based in Vancouver, British Columbia, LULU has 135 stores in the United States and 51 stores in Canada, and also has extensive wholesale business through health and fitness clubs.

Not only are its clothes high-end, so is its p/e ratio, 42.47, which compares to Nike’s (NKE) 24.11.  This lofty evaluation is the likely reason for the large number of shares sold short (19.8% of the float).

Looking forward to next week’s earnings announcement, let’s check out what has happened over the past four quarters, with the stock price change from the close on the day before the announcement until the closing price on Friday (when the weekly options expire):   

LULU Earnings Chart

LULU Earnings Chart

LULU has not done very well after earnings announcements considering they beat estimates every time.  In half the quarters the stock fell after they topped estimates. The stock has tended to move considerably after an announcement (an average of 7%). Next week’s option prices are priced for a 7% move, exactly the average change for the last four quarters.

Over the last several months, I have been testing the proposition that the level of expectations prior to an earnings announcement is a better indicator of what the stock price will do than the actual earnings themselves. I call it the Expectation Model.   Basically, I examine recent stock price activity, estimates vs. whisper numbers, past post-earnings price changes vs. results, current RSI levels, and come up with a measure of whether expectations are unusually high or low. If expectations are usually high, there is an excellent chance that the stock will be flat or fall after the announcement, regardless of how much the company might surpass estimates, and conversely, the stock is more likely to move higher when expectations are low, even if estimates are merely met.  (Unusually low expectations are generally less predictive of higher post-announcement prices, however – unusually high expectations more reliably predict lower prices after the announcement). I have had some serious success with this model, including 12 consecutive winning pre-earnings calls (average gain about 18%) without a loss – see results and update. Over half of the earnings plays were published in Seeking Alpha articles published before the announcement – see some examples here and here.

A bullish case for the company cited getting its yoga pant line back after recalling it for being too transparent – Lululemon Poised To Pop After Ironing Out Pants Issue. A more balanced analysis was made by Bill Maurer –  Will Lululemon Decline After Earnings?  I strongly encourage you to read this article as he reported just about exactly what I would have said so there is no reason to repeat it all here.

The only thing I would add to Bill Maurer’s article is my concern of the level of recent insider and institutional sales of stock.  While Yahoo reports that insiders sold 579,758 (4.2% of their holdings) over the past six months, if you add up the individual sales reported that number becomes more than double that amount.  Over the last quarter, institutions disposed of over 7 million shares (4.9%) of their holdings.

So how does LULU stack up with the Expectation Model?  Bottom line, expectations seems to be a little high leading up to next week’s announcement.  The stock has had a huge run-up recently, rising about 25% over the past 10 weeks and hitting a new high of $82.48 last week before backing off about $4 since then.  Whisper numbers are higher ($.32) than estimates ($.30). Recent institutional sales or purchases are part of the model and have been a fairly reliable indicator as to how the price might move after the announcement.  We can expect that a great deal of research and analysis went into their decision (in this case, to sell shares) and it is usually a good idea to follow along with them rather than guess they are wrong.

High expectations, a record of lower stock prices after earnings, and what I believe is a currently-expensive stock price, all lead me to believe that there is an excellent chance that LULU will trade lower next week and that anyone who is thinking of buying shares should wait until after the announcement and most likely get a better price at that time.  This is just what I said about Costco (COST) two weeks ago (a company I love and am long), and even though it bested estimates, it is trading about $5 lower after announcing.

I don’t feel as strongly that LULU will drop after the announcement as I did with COST, however (mostly due to the stock falling $4 in the last week), so I will hedge my bet.  With LULU trading at $79, I will buy 10 July-13 80 calls and sell 10 Jun2-13 78.5 calls (incurring a maintenance requirement of $2500) for about even money, and buy 5 July-13 – Jun2-13 82.5 call calendar spreads for about $1.25 (just in case I am wrong and the stock moves higher).  My total investment will be about $3200.

Here is the risk profile graph for those positions assuming that IV of the July option will fall from 40 to 30 after the announcement:

LULU Risk Profile Graph

LULU Risk Profile Graph

These positions could make an average gain of about 20% if the stock does not fluctuate too much.  It looks like a gain of some sort should come about if the stock fluctuates by less than 5% on the upside or about 7% on the downside.  This is an investment you should only make with money that you can truly afford to lose.  I plan to do it, and expect it to be my 13th consecutive winning earnings trade.

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