We are in the heart of earnings season, which makes it timely to discuss how implied volatility (IV) reacts leading up to, and after these announcements.
A graph of IV during the earnings cycles from June 2014 to May 2015 was displayed. A table of the at-the-money (ATM) straddle leading into its earnings was displayed. We demonstrated that although IV appears to be increasing, the price of options is actually somewhat consistent.
We do not believe that it is a profitable strategy to buy volatility going into earnings. See the Market Measures we did for the data and a thorough explanation of why.
We also use IV to calculate the expected move of a stock. When earnings are approaching, it's crucial that we use the IV in the earnings cycle so that we get an accurate calculation.
A graph of the IV of an equity leading up to and through an earnings announcement was displayed. There is an obvious reduction in IV following earnings, as the unknowns surrounding a company's performance becomes known, removing the need for short-term protection. Tom and Tony mentioned that the recent higher volatility of the markets have made upside earnings moves muted, since the overall market has been dragging down equity prices across the board.
Watch this segment of “Options Jive” with Tom Sosnoff and Tony Battista for the takeaways and a better understanding of volatility and its relationship to earnings.
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