Weekend Portfolio Analysis (April 25, 2015)

Market Conditions

The markets were strong this week with both the S&P 500 (SPX) and Nasdaq Composite (COMP) hitting new all-time highs. The SPX opened Monday at 2084.11 and closed on Friday at 2117.69, up 33.58 or 1.6%. Volume was mixed on the NYSE, but quite a bit stronger on the Nasdaq towards the end of the week. All of the major indices are back above their 50-day moving average. The VIX closed down at 12.29 on Friday and hit its lowest point in 2015 on Thursday at 12.12.


Global equity markets enjoyed a strong start to the week after the People’s Bank of China lowered the reserve requirement for the country’s banks by 100 basis points in hopes of avoiding a slowdown in their economic growth. This news overshadowed the continued problems in Greece as their government scrambles for funds ahead of the next IMF payment deadline. U.S. economic news this week was fairly light, however it was a busy week for quarterly corporate earnings. 

The Nasdaq 100’s (NDX) impressive 3.73% gain this week was fueled primarily by upbeat earnings reports from just four big-cap stocks. Amazon (AMZN) and Starbucks (SBUX) gapped up and recorded all-time highs on strong Q1 results rising 14% and 5%, respectively. Google (GOOG/GOOGL) and Microsoft (MSFT) also gapped up, but fell short of making new highs. They were up by 3% and 10%. Much of the rest of the market was lackluster. Despite the sizable gain for the Nasdaq, losing issues led winners by a 7-5 ratio during trading on Friday.

Crude Oil traded in a narrow range opening the week at $57.75 per barrel and ending Friday at $57.42 per barrel with implied volatility on /CL options dropping significantly. Oil has rebounded from a six-year low in March on speculation that a drilling slowdown and increased demand will help drain excess supply.


Trade Activity This Week

This past week saw a lot of trading activity mostly due to the fact that we are right in the midst of corporations reporting their quarterly earnings results. This presents incredible short-term trading opportunities. As an underlying approaches its earnings announcement date, the option front month or weekly option chain typically will see an increase in implied volatility resulting in a temporary inflating of the option pricing. Immediately following the earnings announcement, the implied volatility will typically drop quickly (vol crush). This presents opportunities for various types of trades at different periods in the cycle.

In last week’s Weekend Portfolio Analysis, I provided details on a straddle that I purchased in Microsoft (MSFT). I purchased the straddle for a $2.15 debit. On April 16, when I made the trade, the stock was trading at $41.91 and the IV Percentile was 53%. This past Monday (April 20), the stock was trading at $42.95 and the IV Percentile had increased to 61%. This provided an opportunity to exit the trade several days prior to the earnings announcement for a $30 profit after commissions which is a nearly 7% return on capital for the trade. Despite the huge move that MSFT made after the earnings announcement, this trade would not have been profitable had I held it through earnings due to both theta decay and the significant vol crush as IV Percentile dropped to under 25%. This strategy is in complete contrast to the next trade.

On Tuesday, I sold a straddle in YUM! Brands (YUM). YUM was scheduled to release earnings after the close on Tuesday. I sold the YUM Apr4 81 Call and Put for $3.75. This premium slightly exceeded the expected move in YUM. When I sold the straddle, the stock was trading at $80.86 and the IV Percentile was up at 95%. On Wednesday, shortly after the open, I bought back the straddle for $2.75 which was a $94 profit (5.82% return on capital) after commissions. Although the stock opened and quickly exceeded the expected move, it did pull back shortly after the open. This coupled with the big crush in volatility (IV Percentile dropped to 51%), resulted in a profitable exit from the trade. Unlike the first trade where options were bought prior to earnings hoping for an increase in implied volatility as the earnings date approached, this trade took advantage of the crush in volatility by selling options just before the announcement and buying them back after the announcement was made.

On Wednesday, I also placed an earnings trade in F5 Networks (FFIV). In this case I sold the Apr4 134/106 Strangle for $0.72 just before the close and the earnings announcement. I placed the strikes significantly outside of the expected move. The stock was trading at $120.12 and IV Percentile was at 74%.  On Thursday morning, I closed out the trade by buying back the strangle for $0.21 and booking a $45 profit (3.75% return on capital) after commissions.

I attempted to place earnings trades on Thursday afternoon in Google and Amazon, but was unable to get filled. I also considered placing another MSFT trade to capture the vol crush after earnings, but there simply was not enough premium to justify the risk in the trade.

On Friday, I sold a double calendar (or diagonal) in First Solar (FSLR). First Solar reports earnings this coming Thursday after the close. This trade is designed to take advantage of the increase in implied volatility leading up to earnings.

Trade Details:

BUY 2 FSLR May 15 65 Call @ 2.84
SELL 2 FSLR May1 15 65 Call @ 2.24

BUY 2 FSLR May 15 62.5 Put @ 1.79
SELL 2 FSLR May1 15 62.5 Put @ 1.27

Debit: 1.12 ($112 per contract)

I plan to close this trade no later than Thursday regardless of whether it is profitable or not. I will not hold it through earnings, as the volatility crush after earnings would result in a considerable loss.

In addition to the earnings trades above, I also continued my weekly SPX credit spread strategy. Monday offered an opportunity to close the SPX May2 1935/1910 put credit spread that I had sold 7 days earlier for a $29 profit after commissions.  With the decline in SPX on Tuesday, I took advantage of the opportunity to sell another SPX May2 1975/1950 put credit spread for $0.65 and closed it out two days later also for a $29 profit after commissions. As we went into the close on Friday, I sold a SPXPM May ’15 1990/1965 put credit spread for $0.70.

Plan For Next Week

The portfolio is currently over 40% in cash and is up 11.2% for the year versus 2.86% for the S&P 500 (see Trading Results).

Next week, I will be looking for an opportunity to close  the FSLR, SPXPM and /CL positions. In addition, it is another busy week for earnings which will present some opportunities. However, I will not have frequent access to a computer much of the week, so my trading activity will be very limited. I will be setting some Good-til-Canceled (GTC) orders this weekend to close these positions, but likely will not be putting no new positions.