Monday, December 15, 2014

PAY: Volatility play

Update 1/17/2015: My short options spreads expired out-the-money and so without value, providing maximum profit.

During the 32-day lifespan of the position, shares rose by 2.2%, for a 25.4% annual rate.

The options produced a 100% yield on debit, or a 1,140.6% annual rate.

The electronic payments company VeriFone Systems Inc. (PAY)  headquartered in San Jose, California, publishes earnings after the closing bell on Monday, Dec. 15. High liquid options and implied volatility make it a candidate for a very short-term play. [PAY in Wikipedia]


PAY's implied volatility stands at 39%, at the highest point of its rise that began Oct. 27 from 37%.

Ranges implied by options and the chart
WeekSD1 68.2%SD2 95%Chart
Implied volatility 1 and 2 standard deviations; chart support and resistance

The one standard deviation range of volatility, encompassing 68.2% of trades over the next week, carries a potential gain or loss of 6.7% over the next week, and the two standard deviation range, enclosing 95% of trades, carries a potential gain or loss of 13.5%.

Click on chart to enlarge.
PAY 180 days 4-hour bars (left), 2 days 5-minute bars (right
The trend has been down since early November. In the very near term, shares opened on an upward up in the first five minutes after the opening bell. The price has subsequently pulled back a bit, although it remains above Friday's close.

The Trade

The downtrend argues for a bear calls spread as my strategy.

The grid lacks Weeklys in its options inventory, so the nearest trading opportunity is the regular JAN series, which expires Jan. 15, 32 days away. My preference is for shorter time periods, ideally about 14 calendar days.

On the other hand, the grid is it liquid, as is less often the case with Weeklys.

Thhe greater time risk creates pricing that allowed me to cover the two standard deviation range, encompassing 95% of trades, for a reasonable risk/reward ratio. However, I couldn't get a fill. The position was short the $38 call, and the risk/reward ratio was 4:1.

I then dropped back to Plan B which covers one standard deviation.

Bear call options spread
short the $36 calls and long the $38 calls
sold for a credit and expiring Jan. 15.
Probability of expiring out-of-the-money

The risk/reward ratio is 3.5:1. The position is profitable up to $36.43, which covers behind the one standard deviation range but leaves portions of SD2 and the chart range uncovered.

Decision for My Account

I've taken the trade, structuring it s described above. It wasn't entirely an easy fill, requiring me to lower my ask twice, by 3 cents total.

-- Tim Bovee, Portland, Oregon, Dec. 15, 2014


My volatility trading rules can be read here. For a discussion of the rationale behind the rules, see my essay, "Rules for very short term trades".

From time to time I use the number 68.2% in using applied volatility to calculate the expected trading range. This comes from statistics and refers to the one standard deviation boundaries, which are expected to contain 68.2% of whatever is being studied. Putting it another way, given an item (a trade or whatever), there is a 68.2% chance that it will appear within those boundaries.

My method of scoring price and volatility responses to earnings, used in the "Chart" section, is the simplest imaginable. Looking at the four most recent earnings announcements, I give one point for a rising price or rising volatility in the week after the announcement, subtract a point to a falling price or volatility, and give a zero if the response is  sideways movement. I then add the four quarters together to produce separate scores for price and volatility, and then add the two to produce a combined score. 

Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decisions for his or her own account, and take responsibility for the consequences.

Creative Commons License

All content on Tim Bovee, Private Trader by Timothy K. Bovee is licensed under a Creative Commons Attribution-ShareAlike 4.0 International License.

Based on a work at

No comments:

Post a Comment