Innovative giant Apple Inc. (NASDAQ:AAPL) is set to report earnings Tuesday after the bell, and believe you me, it will be a spectacle millions of traders will be watching. From the hardcore zealot in possession of every Apple gadget on the planet to the countless AAPL shareholders and option speculators, legions will tune in to see how the company’s earnings release will be received on Wall Street.
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Year-to-date, AAPL is up roughly 42% even after taking a recent $70 haircut from its all-time high of $644. The elevated excitement and uncertainty surrounding the upcoming event have certainly influenced option prices. The steady rise in implied volatility has lifted 30 day implied volatility (the red line in the attached graphic) to levels not seen this close to a quarterly release in two years.
To be fair, the rise in implied vol has been accompanied by an uptick in 21-day historical vol (blue line in graphic) so the differential between the two is comparable to levels seen before past earnings events.
Expectations as to the actual earnings gap can be gauged in a roundabout way using the weekly straddle price. As of mid-day Monday, the April weekly $570 straddle cost $42, effectively pricing in a 7% rise or fall in the stock price by week’s end.
Keep in mind that includes a full three trading sessions following the earnings release so the actual post-earnings gap expectations are less than that, perhaps around 5%.
Click to EnlargeHeading into the number I would lean toward being bearish on volatility and mildly bullish on the stock price. We might even argue the recent 10% correction in AAPL is perhaps one of the best things that could have happened before the announcement. At least now some of the speculative froth and weak longs have been taken out of the stock.
One of the more compelling strategies to employ heading into the number is selling out-of-the-money bull put spreads. The bull put spread consists of selling to open a higher-strike put while buying to open a lower-strike put from the same expiration month.
The net credit received at trade inception represents the max reward and will be captured as long as the stock remains above the higher strike price by expiration. The max risk is limited to the distance between strikes minus the net credit.
Traders looking for a high-probability bet might consider selling the May 510-500 bull put spread. If sold for a net credit of $1.65, the max reward is $165 while the max risk is $835.That’s a potential return on investment of 20%. Since the 510 May put has a delta of 16, the probability of profit comes out to 84%.
At the time of this writing, Tyler Craig owned bull put spreads on AAPL.