[CSCO in Wikipedia]
CSCO
I shall use the DEC series of options, which trades for the last time 36 days hence, on Dec. 18.
Ranges
Implied volatility stands at 29%, which is 1.7 times the VIX, a measure of volatility of the S&P 500 index. CSCO’s volatility stands in the 52nd percentile of its annual range.
| Week | SD1 68.2% | SD2 95% | Earns |
|---|---|---|---|
| Upper | 30.54 | 33.09 | 30.52 |
| Lower | 25.44 | 22.89 | 25.46 |
| Gain/loss | 9.1% | 18.2% |
The Trade
I shall use freely available analysis of CSCO from Zacks Investment Research for help in determining the direction of the trade. Zacks Score at 3 is neutral. Zacks Expected Surprise Prediction anticipates no earnings surprise either way.
In contrast, my enthusiasm index, based on broker recommendations, is bullish at 30%.
And in further contrast, the stock price has been declining since Oct. 22.
Long story short: This is a confusing mish-mash.
I shall first construct a direction neutral position with as much bearish offset as the option grid will allow.
Proposed Trade #1:
short the $25 puts and long the $24 puts,
sold for a credit and expiring Dec. 19.
Probability of expiring out-of-the-money
| DEC | Strike | OTM |
|---|---|---|
| Upper | 30 | 83.2% |
| Lower | 25 | 86.6% |
The options grid presents is challenging because of the relatively low price. Strikes are a dollar apart, but even with that high granularity, the percentage probability of a strike expiring out of the money jumps directly from the high 60s to the mid 80s on the calls, leaving fairly small premium if I provide my preferred probabilities in the 80s on the puts.
The premium is $0.20, which is 20% of the width of the position’s wings. The stock at the time of analysis was priced at $28.
The risk/reward ratio is 4:1.
The zone of profit in the proposed trade covers a $2.50 move either way. The biggest immediate move after each of the past four earnings announcements was $2.53, and the average was $1.05.
Proposed Trade #2:
An alternative would be to put greater emphasis on the bearishness of the chart (and indeed the markets in general) rather than on Zacks neutral score. A bear play would shrink the profit zone by $1 on the upside with a lower probability of expiring out of the money, but would give an unlimited profit zone to the downside
sold for a credit and expiring Dec. 19.
Probability of expiring out-of-the-money
| DEC | Strike | OTM |
|---|---|---|
| 29 | 69.3% |
The premium is $0.28, which is 28% of the width of the position’s wing. The stock at the time of analysis was priced at $28.
The risk/reward ratio is 2.6:1.
The strike extends the profit zone to $1 above the market price.
Decision for My Account
The analyst enthusiasm index provides a reasonably bullish spin to the directional analysis that does much to overcome the bearish direction of the chart. That makes bear play (proposed trade #2) overly risky in my assessment.
The directional neutral play fails to cover all of the maximum post-earnings next-day move of the pst year, making it unacceptably risky.
I'm declining the CSCO trade as being overly marginal in its risk assessment in relation to the potential reward.
-- Tim Bovee, Portland, Oregon, Nov. 12, 2015
References
Tradecraft: Playing the odds to build winning stock market trades from options, a description of how I trade, can be read here.
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Disclaimer
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.License
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Based on a work at www.timbovee.com.
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