When International Business Machines Corporation (IBM) released its fourth quarter of 2020 revenue report After the market closed yesterday, traders in the post-market session sold the stock price to $122.25 shortly after. This is a larger drop from what option the sellers waited before the announcement of the results. The downward move was much larger than IBM’s usual trading range before the earnings release. A move of this magnitude could imply a continuation of the downtrend in the days and weeks ahead.
Key points to remember
- IBM exceeded the profit target but missed the revenue target.
- Traders expected IBM to rise or at least stay above $126.
- Expected trading ranges have lowered significantly.
Options trading represents the activities of investors who want to protect their positions or speculators who want to profit from correctly predicting unexpected movements in an underlying stock or index. This means that options trading is literally betting on the odds of the market and therefore requires working with the best broker to get the most out of it. By comparing the details of stock and option price behavior, chart watchers can gain valuable insights, although it helps to understand the context in which that price behavior took place. The chart below illustrates the movement of IBM’s stock price and the pattern leading to the earnings report.
The stock’s six-week trend was slightly higher as IBM rose from $123 per share in early December to $131 per share the day before the announcement. The Keltner Channel the indicators on the chart represent price levels that represent a multiple of the Mean true range (ATR) for inventory. IBM’s upward price move was more than four times the ATR from its original price in December.
Point
The Average True Range (ATR) has become a standard tool for representing history volatility overtime. The typical average duration used in its calculation is 10 to 20 periods, which includes one to two weeks of trading on a daily chart.
Using this as a backdrop makes it easy to show how IBM’s price trend has remained in a calm range over this period. Although IBM occasionally makes a big jump in price beyond three times the ATR multiple, such moves are the exception and seem to happen less than 25% of the time. Also, when they occur, they have recently been a bearish indication.
Point
The Keltner Channel the indicator displays a set of semi-parallel lines based on a simple moving average and an upper and lower line. Since the upper lines are drawn by adding a multiple of ATR to the average and the lower lines are drawn by subtracting an ATR multiple from the average price, this channel indicator is a great visualization tool for plotting volatility. historical.
Commercial activity
Options Traders acknowledging that IBM had been in a quiet trading range might have assumed the stock would rise significantly after the earnings announcement. Trading the day before earnings was over 156,000 call options exchanged for approximately 52,000 put optionsdemonstrating the bias of option buyers.
Clearly, options traders were expecting very positive good news, so much so that 48% of those options trades were made on exercise price more than three ATR multiples above the closing price. The table below illustrates the option price ranges involved by all options trades before profits.
The range expected by option sellers for the announcement (indicated by blue lines) was between a high of $136.47 and a low of $125.23. The option prices also implied that there was only a 25% chance that the price would go below $122 or above $138. The IBM average implied volatility score at that time was close to 35%. The way option sellers had priced before earnings, options also implied the likelihood that the stock price would be in the $139 high or $120 low range by now. the end of the following week.
The earnings report included key details that IBM exceeded its profit target by reporting $2.06 of earnings per share (EPS) vs analysts’ expectations of $1.81. However, the company missed its revenue target with just $20.37 billion in sales, compared to an expected $20.68 billion. The company has announced that it expects revenue growth in 2021, but investors don’t seem to be focused on anything other than the missed revenue target. The chart below shows how the price opened today and the probability range adjusted for the market’s reaction to the earnings announcement.
The price opened Friday at $120.70, lower than any price the stock has traded since before December. This reaction brought the stock several ATR multiples below the average price of the Keltner channel. The price continued to decline after the open the next day and broke above the 75% probability range predicted by the previous day’s options trading. Meanwhile, option pricing the following week moved the implied price range lower, pricing in the possibility that the stock could trend lower.
At the start of today’s trading session, nearly 150,000 calls were traded against 84,000 puts, suggesting that traders are now more bearish than they were on IBM.
Market impact
IBM is no longer the indicator stock than it was, but news of IBM’s revenue loss may add to a more skeptical mood among investors if other tech companies also report below-expected results. Unless that happens, IBM’s results are unlikely to have a big impact on the overall market. exchange traded funds (ETFs) such as State Street’s SPDR S&P 500 ETF Trust (TO SPY). Surprisingly, many investors remain optimistic, as evidenced by the large number of call option purchases.
The essential
Options traders bought IBM’s call options heavily ahead of the earnings release, expecting very good news from the company. However, the company’s report surprised traders and investors, and IBM fell 7% after hours. With options trading the next day reflecting lower expectations, investors can be expected to take a more pessimistic view of the stock.