Tuesday's Options Report: Amazon, YHOO, VMW, EMC, ZMH, SOV, XLF, JPM, VLO

(AMZN) - Online retailer Amazon.com is due to report earnings after the bell today. Its shares are currently down nearly 3% at $73.61. Today’s earnings report will unmask the numbers behind an unusually eventful quarter in terms of product unveilings - to wit, its wireless, Sprint-powered electronic reader Kindle, the debut of the video downloading service Unbox, a separate MP3 download service in cooperation with Warner Music Group, as well as the impact of a record holiday season. Over the past 52 weeks, Amazon’s charmed run has brought about a near-doubling in its share price, but it’s lost 20% of its froth so far this year. With more than 31,000 options in play today, less than 10% of its open interest appears actively deployed, but it still ranks among the top 25 tickers by volume on our platform. Implied volatility in Amazon.com shares is at an extraordinarily high level – at 81% it’s the highest reading we have on record for Amazon and weighs in at 1.3 times the historic reading. Our immediate read of the sentiment shows defensiveness on the ascendancy, with traders looking to sell out-of-the-money February calls at strikes of 85 and 90, while puts at the February 70 level were bought. We also noted fresh buying interest in July 70 puts, which traded for $9.85 today – a buyer of this strike is looking for a retracement in Amazon’s share price to at least $60.15, levels it’s not seen since the first half of 2007.

(YHOO) –Yahoo! - Ahead of Yahoo!’s after the bell earnings report, option volume of more than 88,000 contracts has made it one of the most active tickers on our platform this morning. A look at the volume shows more than 6 times the number of calls moving as puts, but much of this is wrapped up in call selling in the February contract at strikes of 22.50 and 25. Shares are down 2% at $20.38. Implied volatility at 70% is our highest reading on Yahoo (our historic data dates back 1 year), and shows option traders factoring in about 25% more price risk in Yahoo! shares over the next month than they’ve exhibited over the past year.

(VMW)– VMWare Shares are down more than 31% after last evening’s earnings miss, but options are trading at twice the normal level, with what looks like buying and selling of strangles in the February contract in the 55/60 and 55/65 combinations. Implied volatility at 79.2% is still elevated above the historic 73.8% reading, an indication that the total impact of VMWare’s earnings report may not yet be fully reflected in its share price, with additional price risk to come.

(EMC) – Shock waves emanating from VMWare’s miss hit shares in data systems giant EMC Corp. The ticker is nursing a 7% decline on the session to $15.67, apparently hurt by VMWare’s shortfall despite itself reporting a 35% increase in Q4 profits. Traffic in the February contract shows traders taking profit in February 15 puts, which sold off heavily at around 80 cents apiece. Evidence of a bullish recovery could be found in March calls at the $18 strike, and April calls at the $15 strike. In general, investors appear to be holding to an optimistic view of EMC Corp’s share price prospects, given that more than twice as many call positions are open compared to calls.

(ZMH) –Zimmer Holdings – Shares are 11.7% higher at $75.91 in Zimmer, the producer of surgical hip and knee replacements, after its Q4 earnings numbers and 2008 guidance soundly beat street expectations. With options trading at 3.5 times the normal level, early today we observed traders look past the front-month contract to seek exposure to Zimmer price upside in March 80 calls. These traded to buyers and sellers on a volume exceeding the prior open interest. In all, more than twice as many calls are trading as puts today as traders appear confident that the orthopedic prosthetic maker has plenty of upside to groove on. Zimmer’s current share price is some $20 off its 52-week low.

(SOV) – Sovereign Bancorp- With anticipation high ahead of an executive presentation at Citigroup’s Financial Services Conference today and tomorrow, options in Sovereign Bancorp (parent company of Sovereign Bank) saw a more than 20% spike in implied volatility to 71%. This occurred as its share price jumped 6.5% to $11.88. Option trading volume picked up in tandem, moving at 2.5 times the normal level. Of interest here was heavy buying interest in February 12.50 calls, which in the first hour of trading moved on volume nearly 3 times the existing open interest as the value of the position gained 50% overnight.

(XLF)– Financial Select Sector SPDR– Shares in the financial sector ETF eked out a .60% gain to $28.32 over the noon hour, with 150,000-plus contracts trading with a skew to calls by a factor of 1.5. With rumors flying that another major bank may be about to announce a derivatives-related writedown, we were interested to note heavy buying interest in the February 26 puts in the first hour of trading. This position traded more than 11,000 times early in the session, attracting mostly buyers at a price of $0.32, providing insurance against another dip below $26 over the next 2 weeks.

(JPM) – JPMorgan Chase – Despite an early report out of Bloomberg linking JPMorgan Chase in connection with fresh derivatives-based writedown rumors, shares in the bank are 2% higher at $46.49. The rumors may have been the impetus behind a rush to buy at-the-money puts at the February 45 strike, which were bought on volume more than double the existing open interest at the strike early in the session today. Overall trading volume today shows puts outmoving calls by a factor of 1.4 – consistent with the relative overweight of puts in its total open interest.

(VLO) – The continent’s largest oil refiner and the first to report earnings, Valero, unveiled a smaller-than-expected decline in Q4 profits today, besting street estimates. The report elicited a near-10% gain for its share price to $60.30. Option traders responded by selling off virtually all the open interest in the at-the-money February 60 puts, despite the fact that this position lost more than half its value overnight. Selling pressure in February calls at the 62.50 and 65 strikes – contracts which more than tripled in value during the same time frame – indicates to us a general inclination to sell Valero’s February volatility. We also observed long strangle positions in the March 60/62.50 combination. This volatility-bullish strategy costs $6 today, and would be bought by a trader looking to position for a new round of share price turmoil in March that would take Valero’s share price either above $68.50 (say, due to dramatic improvement in refinery margins) or down below $54.00. Such a move would either wipe out today’s share price gains…or double them.