by Tyler Craig | February 4, 2013 6:45 am
While Apple (NASDAQ:AAPL) has experienced an oh-so-epic fall from grace, fellow tech cohort Google (NASDAQ:GOOG) is a stone’s throw away from all-time highs. Following its earnings gap in mid-January, the king of search has continued grinding steadily higher, placing it in a prime position to retest its prior highs at $774.
Click to Enlarge Option addicts will be happy to note implied volatility for GOOG options has plummeted. Following Google’s recent earnings announcement, the CBOE Google VIX (CBOE:VXGOG) fell to 18%, which is the lower end of its multiyear range. This low level reflects the relative cheapness of GOOG options, increasing the appeal of long volatility plays.
Not only does the implied vol of GOOG options appear cheap relative to its historical range, it’s also arguably cheap when compared to recent historical volatility. Looking back over the past 20 days, GOOG has realized a 25% vol, which translates into an average move of 1.5% per day. However, the 20-day reading is skewed a bit high as it includes the large up-gap in response to GOOG’s earnings.
Click to Enlarge To remove the influence of the one-day gap, we could look at a shorter-term measurement of historical vol, such as a 7-day reading. At 15%, the 7-day historical vol translates into an average move of just under 1% per day. Even then, buying GOOG options at an 18% implied vol looks like a good deal.
If you’re bullish on GOOG and want to position yourself to capture outsized gains if it blasts to new highs, consider buying the March 770 calls around $20. Your risk is limited to the initial $20 paid and your reward is unlimited.
Click to Enlarge If you’re not as optimistic on GOOG but believe it will move more than the options are currently pricing in (a little over 1% a day), then consider buying March 770 straddles. A straddle position is considered a long volatility, bi-directional play that profits if the underlying rises or falls more than the options are pricing in. To structure the trade, you would buy the March 770 call and buy the March 770 put for around $36.50. All GOOG needs to do is rise or fall more than 5% by March expiration for you to profit (see the accompanying risk graph).
For a profit target, consider closing the position if the straddle rises in value by 25% to $45. To limit losses you might also consider bailing if the straddle drops in value by 25% to $27.
As of this writing, Tyler Craig did not hold a position in any of the aforementioned securities.
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