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Posts Tagged ‘JPM’

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 Use Expectations to Prosper With Earnings Announcements

Monday, April 15th, 2013

This week I will offer a simple spread idea that could make 50% in a couple of days next week.  It will cost about $170 per spread to put on. 

Also, if you read down further, there is information on how you can become a Terry’s Tips Insider absolutely free! 

How to Use Expectations to Prosper With Earnings Announcements 

The earnings season started just last week.  In my last Idea of the Week I recommended buying a straddle on JPMorgan (JPM), the first big company to announce this time around.  We made that trade in an actual portfolio for Terry’s Tips subscribers and closed it out for a 15%+ gain after commissions. 

I also suggested an options strategy for JPM in a Seeking Alpha article – How To Play The JPMorgan Earnings Announcement.  In another Terry’s Tips portfolio  we placed calendar spreads as outlined in this article and closed them out for a gain of 15% after commissions even though the stock fell a little after the announcement while we were betting that it would go higher. 

A wonderful thing about options is that you can be wrong and still make profits as we did last week in our JPM trades.  Terry’s Tips subscribers who followed both portfolios made over 30% last week, more than most people make in an entire year of stock market investing. 

This week I wrote another Seeking Alpha article which checks out seven big companies which announce this week – How To Play The First Week Of The April Earnings Season.  

The major message of this article is that the price of the stock after the announcement is more dependent on pre-announcement market expectations than the actual numbers that the company releases.  If expectations are too high, the stock will fall no matter how much the company beats the analysts’ projections. 

Of the seven companies reviewed, SanDisk (SNDK) seemed to have the highest level of expectations.  Whisper numbers were 18.6% higher than analyst projections, the stock had shot up over 10% to a new high over the last week, and had moved 5% higher in the last week alone.  We believe that it is highly likely that some investors will “sell on the news” no matter how good it is, and the stock will either stay flat or fall after the announcement. 

With the stock trading about $57.70, I am buying May 57.5 puts and selling April 55 puts. Implied volatility (IV) of the May options is 37 while the April options carry an IV of 70, nearly double the May number (this means you are buying “cheap” and selling “expensive” options).  Each diagonal spread would cost $163 to place at the natural option prices at the close on Friday. 

Here is the risk profile graph for these spreads if you bought 20 of them, investing about $3400 after commissions (of course, you could buy fewer, or more, if you wished): 

SNDK Risk Profile Graph

SNDK Risk Profile Graph

This graph assumes that after the announcement, implied volatility (IV) of the May options will fall from its current 37 to 30 which is more likely in a non-announcement time period.  The graph shows that when you close the positions on Friday, April 19th, a double-digit gain could be made if the stock holds steady, and could nearly double your investment if it fell about $2 ½ after the announcement.  A profit would result no matter how far the stock might fall in value. 

We think the stock is likely to fall after the announcement because expectations are so unusually high.  If it moves higher, however, a loss could very well result.  Even in the world of options, there is no free lunch.  You need to take a risk.  We like our chances here.

An Interesting Straddle Purchase Opportunity in J.P. Morgan (JPM)

Monday, April 1st, 2013

Most of the time I prefer to sell options with just a few days or weeks of remaining life and collect the premium that is decaying at a higher rate than ever before.  However, this policy is not always the most profitable alternative out there.  Today I would like to discuss one of those situations where buying options rather than selling them might be the better bet. 

If you read down further, there is information on how you can become a Terry’s Tips Insider absolutely free! 

An Interesting Straddle Purchase Opportunity in J.P. Morgan (JPM)

 Implied Volatility (IV) of an option price is supposed to measure the market’s expectation of how much the underlying security will fluctuate in one year.  If an options series has an IV of 20, the market expects the stock will move either up or down by 20% over the course of a year. 

Sometimes there is a huge difference between IV of the options and the actual price behavior of the stock.  For example, check out J P Morgan (JPM).  The April options have an IV of 24 with three weeks of remaining life, and this IV is unusually high because an earnings announcement is due on April 12 (before the open), and volatility is usually higher than normal after announcements. 

So how much did JPM fluctuate over the past year?  On June 4, 2013 it hit a low of $30.83 and on March 15, 2013 it hit a high of $51.00. This is a 64% change, more than triple the IV of the options.  In other words, options are relatively inexpensive compared to the actual volatility of the stock. 

When you see a situation like this, the best options play might be to buy a straddle (both a put and a call) at an at-the-money strike and hope that the stock fluctuates as it has in the past. 

Right now, with JPM trading at $47.50, you could either buy an April 47 or 48 straddle for about $2.00 (if you think JPM is headed higher, you would select the 47 strike, and if you think JPM is more likely to fall, you would choose the 48 strike).  If the stock fluctuates more than $3.00 in the next three weeks, you could sell your straddle for a 50% gain.  (The nice thing about straddles is that you don’t care whether the stock goes up or down, just as long as it moves.) 

So how likely is JPM to fluctuate by at least $3.00 in a month?  Here are the biggest and smallest moves it has made over the past 25 months: 

Month

Open

High

Low

Close

Big Up

Big Down

3/1/2013

48.6

51

47.28

47.46

2.08

1.64

2/1/2013

47.4

49.68

46.85

48.92

2.63

0.20

1/2/2013

44.98

47.35

44.2

47.05

3.38

-0.23

12/3/2012

41.27

44.54

40.2

43.97

3.46

0.88

11/1/2012

41.7

43.07

38.83

41.08

1.39

2.85

10/1/2012

40.88

43.54

40.42

41.68

3.06

0.06

9/4/2012

36.98

42.09

36.78

40.48

4.95

0.36

8/1/2012

36.19

38.86

34.76

37.14

2.86

1.24

7/2/2012

36.27

37.2

33.1

36

1.47

2.63

6/1/2012

32.41

37.03

30.83

35.73

3.88

2.32

5/1/2012

43

44.24

32.26

33.15

1.26

10.72

4/2/2012

45.75

46.35

41.8

42.98

0.37

4.18

3/1/2012

39.51

46.49

39.12

45.98

7.25

0.12

2/1/2012

37.89

39.94

37.05

39.24

2.64

0.25

1/3/2012

34.06

38.1

34.01

37.3

4.85

0.05

12/1/2011

30.86

34.19

30.03

33.25

3.22

0.94

11/1/2011

32.47

35.18

28.28

30.97

0.42

6.48

10/3/2011

30.03

37.54

27.85

34.76

7.42

2.27

9/1/2011

37.62

37.82

28.53

30.12

0.26

9.03

8/1/2011

41.16

41.37

32.31

37.56

0.92

8.14

7/1/2011

40.81

42.55

38.93

40.45

1.61

2.01

6/1/2011

42.87

42.99

39.24

40.94

0.12

4.00

5/2/2011

45.94

46.07

41.69

43.24

0.44

3.94

4/1/2011

46.55

47.8

43.53

45.63

1.70

2.57

3/1/2011

46.47

47.1

43.4

46.1

0.41

3.29

 I have highlighted the months in which the stock fluctuated at least $3.00 in either direction (enough for you to make a 50% gain on a $2.00 straddle purchase).  For those months, a 50% gain would be possible in 17 out of 25 months (68% of the time).

 Admittedly, in this example with April options, there are only three weeks rather than four for the stock to fluctuate by this much, but since this time period includes an earnings announcement, greater volatility can be expected in this three-week period than a normal (no earnings announcement) month. 

If you were to buy an April straddle on JPM for $2.00 and place a good-til-cancelled order to sell it if it hit $3.00, you would gain 50% on your investment (less commissions).  If it did not execute in the next two weeks, I would recommend selling it when there was one week remaining for the April options.  If the stock is trading exactly at the strike price of your straddle, you would probably get back half of your $2.00 cost, losing 50%.  If the stock is at any other price than exactly at your strike price, you should be able to sell the straddle for more than $1.00.  If the stock is as little as $1.00 higher or lower than your strike price, you should be able to get back $1.50 of your original $2.00 cost by exiting (selling) the position with a week of life remaining in the option.  If the stock is $2.00 away from the strike price, you should be able to sell the straddle at a profit. 

The stock does not have to fluctuate by $3.00 for you to sell an at-the-money straddle for $3.00 since there will always be some time value to the options (over and above the intrinsic value) right up until the options expire. 

I like the odds of this straddle purchase and plan to do it both in my personal account and in one of my portfolios that I conduct at Terry’s Tips

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