Season of earnings
Many investors have marked the last week of July on their calendars, as some of the world’s largest technology companies are set to report earnings.
However, Goldman Sachs’ derivatives team stated in a note on Wednesday that the options market appears to be anticipating a quiet few weeks for stocks.
“Despite our expectation for volatility on earnings days, option prices are low. “We believe investors have been lulled into complacency, most likely as a result of the recent low SPX realized volatility,” Goldman wrote in a note.
According to Goldman, stocks reporting later this month with options prices implying smaller-than-average post-report moves include Apple, Facebook, and PayPal. This enables traders to make relatively cheap bets on potential volatility.
The analysts did not take a stance on which way to bet on the stocks, instead leaving it up to traders.
“Investors can purchase just the put or call to express a directional view, or they can purchase the combination to express a view on volatility potential,” Goldman explained.
Call options allow investors to purchase a stock at the specified strike price before the expiration date, and the trade becomes profitable if the stock rises above that strike price. Put options work in the same way as call options, but in the opposite direction, as a bet that the stock price will fall.
A straddle is a bet on a large move in either direction that involves purchasing both calls and puts on the same underlying security at the same strike price. Investors could also purchase options with different strike prices, which may have lower premiums but run the risk of the stock finishing somewhere in the middle, rendering both bets unprofitable.
The risk to investors in these options is limited to the premium paid for the contracts.
Return to school
Although the United States is in the midst of summer, the back-to-school shopping season is just around the corner. In a note issued on Thursday, JPMorgan strategist Shawn Quigg suggested that traders consider adding some Target options to their shopping cart.
The firm advised Target investors to buy October $280 strike calls, predicting that the company’s sales would pick up in the third quarter.
“We remain fundamentally positive on the stock, believing that the company will be a key beneficiary/COVID-19 wallet winner with continued top-line growth and margin expansion, fueled by strong back-to-school/work seasonal trends and lean inventories. Back to school season typically lasts until September,” according to JPMorgan.
With the strike price 12 percent above where the stock closed on Friday, this is a bet on a big move, but buying calls far out of the money can be a cheap way for investors to get exposure to upside.
Trade between chipmaker pairs
A pair trade is one type of strategic trade used by professional investors. The process entails betting against one stock and on another in the same industry, with the goal of theoretically hedging away sector-specific risk.
Citi analysts identified such a trade in the semiconductor industry this week, writing to clients on Thursday that they were growing bullish on Advanced Micro Devices while remaining skeptical of Intel.
“Given the upside of AMD’s server market share gains and the downside of Intel’s server market share losses, we recommend a pair trade of Overweight AMD/Underweight Intel,” according to the Citi note.
A typical hedge fund pair trade might involve buying one stock and shorting the other. True shorting a stock, on the other hand, is risky and not available to all investors. Pairing a long position or call option on AMD with a put option on Intel may make more sense for those looking to make a directional bet with less risk.
Intel’s potential deal with Global Foundries complicates matters in this trade. If Intel does agree to buy the company, the acquisition could have a greater impact on the stock than the server market dynamic identified by Citi.
Intel will report earnings on Thursday, while AMD will report on July 27.