New Trade – $MSFT: Surface Friction

by Dan June 16, 2015 3:13 pm • Trade Ideas

Microsoft has been a fairly tricky stock so far in 2015, trading within a 22% range from the early April lows, to the late April highs, with two massive gaps post earnings results (down 9% in January and up 10% in April) and now unchanged on the year:

MSFT 1yr chart from Bloomberg
MSFT 1yr chart from Bloomberg

That is some serious market cap being thrown around on those earnings gaps, about $35 billion one day moves.

The next identifiable catalyst will be MSFT’s fiscal Q4 results scheduled for July 21st after the close.  With the stock at $46.15 the July 24th weekly 46 Straddle (the call premium plus the put premium) is offered at $2.86.  If you were to buy that, and thus buy the a greater than expected move between now and and July 24th, you would need a move above $48.86, or below $43.14, which actually seems fairly reasonable if you consider the prior two earnings moves.  But in a market that seems opposed to large movements from the top down, it has been an incredibly difficult way to make money on a directional basis owning premium.

The one year chart below shows a one year chart of 30 day at the money implied volatility for MSFT, basically trading at the midpoint of the 2015 range:

[caption id="attachment_54529" align="aligncenter" width="600"]MSFT 1yr chart of 30 day at the money IV from Bloomberg MSFT 1yr chart of 30 day at the money IV from Bloomberg[/caption]

While options prices are not exactly cheap, they are not exactly expensive.  With the stock having given back a little more than half of its post earning gains, I suspect we could see the stock consolidate a bit between $44 and $48 prior to earnings, with the stock right now in the middle of that range.

Trade: Buy the MSFT (46) July 43/46/49 call fly for 1.35

– Buy 1 July 43 call for 3.30

– Sell 2 July 46 calls at 1.05 (2.10  total)

– Buy 1 July 49 call for .15

Break-even on July expiration:

-Profits: up to 1.65 between 44.35 and 47.65, max gain of 1.65 at 46

-Losses of up to 1.35 below 44.35 and above 47.65 with total loss of 1.35 below 43 and above 49.

Rationale – MSFT is sitting right on converging moving day average and doesn’t have any major events scheduled until after July expiration. Even though implied vol is low we like the idea of fading any moves outside this range between now and then.