Calendars with no Volatility Risk!

Outlandish title? Is it possible? Decreasing Option Volatility, called Implied Volatility, can be a real pain to a Calendar Trader. In 2012 and most of 2013, the market has trended up and Option Volatility was mostly decreasing. This caused Calendar Traders on the upside much discomfort. I am going to show you how to enter Calendars near Earnings, and in most scenarios, not all, Option Volatility won’t hurt you. This sounds too good to be true? Not really, you still have price risk, but generally you won’t lose on these strategies due to volatility moving against you. Is eliminating one of your foes good? Would the Bambino Mob Family like it if one of their foes, the Calzone Family was eliminated? Of Course!

Trade Idea:  AMZN $280  Buy 1 July 290 Call ( July 26 expiration)  Sell 1 July 290 Call ( July 19 expiration) for a debit of around $11 ($1100). The Implied Volatility of the call we are buying is 42 and the implied volatility of the call we are selling is 24.

Reasoning: Dan, do you have a hole in your head, why are you buying high volatility and selling low volatility? Glad you asked! I purposely want to buy the expiration that will be affected by earnings and sell the expiration that won’t be affected by earnings. AMZN earnings will come out after July 19 expiration, so we buy an expiration after July Expiration, in this example July 26. This  expiration will be affected by earnings. We sell an expiration that will not be around when earnings arrives, in this case , the July 19 expiration. The theory is that the volatility of your long option will stay elevated going into earnings and that the volatility of the short you are selling will continue to decline because it won’t be affected by the event called Earnings. Do we still have price risk? Of course! But we eliminate in most cases volatility risk, which is huge! What is my plan?  I am paying around $11. My target is around 10% or $110. Practice this on paper and get used to these types of trades. Other Candiddates that have earnings after July expiration are AAPL and MA. Practice the craft!

  • Boe

    I did this on last quarter’s earnings for Priceline, only with an insane probability, something like 98% above the strike at expiry for the put, and 2% above for the call (yes, that was one massively droopy probability tent). The IV on the weekly shorts increased by over 100% during the period of the 10 days of the trade, so I came out with over 10% profit selling the day before earnings (I think it was 2 days before the short expired). Hard to come by such a trade, as the IV spike was massive, which is hard to predict. Interesting experiment though.