$DIS Earnings Cheat Sheet / Considering Our Options

by Enis November 6, 2014 11:47 am • Commentary

DIS reports its fiscal Q4 earnings today after the close.  Here is a brief preview:

Implied Move:  The options market is implying about a 2.25% one day move, which is just about in line with both the 4 quarter average of 2.0% and the 8 quarter average of 2.25%.

Sentiment:  Wall Street analysts are positive on DIS, with 24 buys, 14 holds and no sells, though the average 12 month price target of $94 is less than 5% above the stock’s current level.  A major reason for that is that DIS is already up 19% year-to-date, one of the strongest mega cap stocks in 2014.  Short interest at around 2.5% of the float has hardly changed in the past 2 years.

Options Open Interest:  Total open interest in DIS slightly favors calls over puts by a ratio of 1.2 to 1.  The average volume over the past month has been evenly split between calls and puts.

The Jan15 80 calls have over 30k of open interest, and the Jan15 80 puts have over 20k of open interest.  The Apr 100 calls have the most open interest of any line, at over 50k.

Price Action/Technicals:  DIS touched its 200 day moving average in October for the first time since 2011:

DIS daily chart, 50 day ma in pink, 200 day ma in yellow, courtesy of Bloomberg
DIS daily chart, 50 day ma in pink, 200 day ma in yellow, courtesy of Bloomberg

The stock’s incredibly sharp V-bottom mirrored the broader market’s move, leading to a new all-time high on Oct. 31st of $91.98.  The stock is now back above the 50 day moving average, which is now around $88.50, and well above the rising 200 day moving average around $83.75.

DIS has no overhead resistance from here, while the 200 day ma is the key support level on the downside.

Volatility:  DIS 30 day implied volatility recently hit a 2 year high, before quickly snapping back to normal levels on the recent rally:

30 day implied volatility in DIS, courtesy of Bloomberg
30 day implied volatility in DIS, courtesy of Bloomberg

Implied volatility looks relatively cheap heading into the event, though the implied move is fair.  If 30 day implied volatility falls back into the mid-teens after earnings, long premium strategies will be a good consideration.

We have a trade on in DIS that I initiated back in late September:  

The main issue with a trade in Disney is timing.  The stock has not traded more than a few percent below its 50 day moving average since 2012.  With that in mind, we decided on a relatively unorthodox structure:

TRADE – DIS ($88.79) Bought the April 85/75 put spread for 2.50

-Bought 1 Apr 85 Put for 3.71

-Sold 1 Apr 75 Put at 1.21

Break-Even on Apr Expiration:

Profits: btwn 82.50 and 75 make up to 7.50, max gain of 7.50 at 75 or lower

Losses: btwn 82.50 and 85 lose up to 2.50, with max loss of 2.50 at 85 or higher

Rationale:  We view the likelihood of a 5-10% move lower in DIS as greater than a 5-10% move higher in DIS over the next 6 months.  However, since DIS has been in such a strong uptrend, we wanted to give ourselves plenty of time for a selloff to play out in case we are too early, so I bought an April put spread.  This structure does not have as high of a reward if there is an immediate selloff in DIS, but it has very little time decay over the next few months, so it is less risky than shorter-dated put spreads.

We should have taken this trade off on the selloff in mid-October, but since we still have the position on today, the consideration is what to do now.  The original thesis that DIS is a crowded long with cheap implied volatility and is at risk of sharper moves lower on a break of trend still holds, with the recent selloff exhibit A in confirming that thesis.  However, the trade has decayed a bit, and the stock is higher, so this put spread is now worth about $1.70, vs. the $2.50 entry price.  Since there are still more than 5 months until expiration, and given the rapid nature of both the up and down move, we are going to hold on to this put spread with the view that volatility is still priced too low.  We will be looking to exit the position on the next substantial selloff in the shares.