The Kroger Co. (
KR), a grocery chain headquartered in
Cincinnati, Ohio, has implied volatility above the 50th percentile of its annual range, qualifying it for further analysis
KR
I shall use the OCT series of options, which trades for the last time 51 days hence, on Oct. 21.
Ranges
Implied volatility stands at 19.7%, which is 1.4 times the VIX, a measure of volatility of the S&P 500 index. KR’s volatility stands in the 50th percentile of its annual range. The price used for analysis was $31.99.
Ranges implied by options and earnings
| Week | SD1 68.2% | SD2 95% | Earns |
|---|
| Upper | 34.63 | 37.27 | N/A |
| Lower | 29.35 | 26.71 | N/A |
| Gain/loss | ±$2.64 | ±$5.28 |
|
Implied volatility 1 and 2 standard deviations; central tendency earns move
The Trade
KR has been on a downward trend since November 2015.
Although it is ranked bearish by
Zacks Investment Research, brokerages are rosier in their assessment, coming down at a 13% enthusiasm rating. Of 15 analysts, 53% have issued strong buy recommendations.
As it turns out KR is within sight of its next earnings announcement, scheduled for Sept. 9 before the opening bell. There is no indication of an earnings surprise looming.
KR has risen in price immediately after three of the last four earnings announcements.
Despite the bearish chart, there's enough bullish hopefulness to warrant a direction-neutral approach. However, the options grid, with a $2.50 gap between strike prices, isn't amenable to such an approach. The only reasonable construction, described below, produces a 6.8;1 risk/reward ratio, which is unacceptable under my standards.
Iron condor, short the $35 calls and long the $37.50 calls,
short the $27.50 puts and long the $25 puts,
sold for a credit and expiring Oct. 22.
Probability of expiring out-of-the-money
| OCT | Strike | OTM |
|---|
| Upper | 35 | 82.8% |
| Lower | 27.5 | 89.5% |
The next best construction is a bearish one, a vertical spread, which is much easier to build on a sketchy grid.
Bear call spread, short the $32.50 calls and long the $35 calls,
sold for a credit and expiring Oct. 22.
Probability of expiring out-of-the-money
The premium is $0.70, which is 28% of the width of the position’s wings.
The risk/reward ratio is 2.6:1, still a bit high for a vertical.
The zone of profit stretches 51 cents higher than the entry price, providing some cover in case of a bullish move.
Since the position would last through the earnings announcement, the history becomes important. The biggest immediate move after each of the past four earnings announcements was $2.85, and the average was $1.24. After eliminating the maximum and minimum post-earnings movements, the central tendency is $1.06.
Decision for My Account
A case can be made for entering a position on KR now, 10 days before earnings, in order to catch IV at a high level than would be the case later.
However, the sketchy options grid makes it impossible to gain sufficient coverage of a stock that has an ambiguous history in response to earnings. It's a chimera, part bull and part bear. The limited degree of profitability to the upside fails to even cover the central tendency, much less the average for the max.
For that reason, I am declining the trade but will revisit KR closer to earnings if implied volatility remains above the 50th percentile of its annual range.
-- Tim Bovee, Portland, Oregon, Aug. 31, 2016
References
Tradecraft: Playing the odds to build winning stock market trades from options, a description of how I trade, can be read
here.
Elliott wave analysis tracks patterns in price movements. StockCharts has a good
explainer. The principal practioner of Elliott wave analysis is Robert Prechter at
Elliott Wave International. His book,
Elliott Wave Principle, is a must-read for people interested in this form of analysis, as is his most recent publication,
Visual Guide to Elliott Wave Trading.
Alerts
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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
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 www.timbovee.com.
