Alcoa (NYSE:AA) unofficially begins the earnings season every quarter, and this time around it will be reporting after market close on Monday, July 9. Alcoa, Inc. engages in the production and management of primary aluminum, fabricated aluminum and alumina.
Due to its industry, Alcoa is often considered an indicator of the health of much of the market. When Alcoa is performing well, it may be attributable to strong demand for aluminum due to new building and construction. Alcoa's products are used in aircraft, automobiles, commercial transportation, packaging, building and construction, oil and gas, defense, consumer electronics and industrial applications.
With this in mind, the market keeps an eye on Alcoa earnings. The intelligent investor can use option prices to understand what price movements the option market is predicting for Alcoa.
The option trade we will look at is called an at-the-money "straddle," which is the purchase of a call and put at the strike price closest to the current stock price. In theory, the total cost of the call and put is the change in price that the stock can be expected to trade at on the day of expiration. Because Alcoa reports earnings on Monday and the weekly Alcoa options do not expire until Friday, we must be aware that those extra four days of price movements are also included in the price of the straddle.
With the Alcoa currently trading at $9.03, the 9 next week's call is trading at $0.28 and 9 put at $0.24. Because we have another set of weekly options available that expire this Friday (prior to earnings), we will subtract the cost of those options from the options expiring next Friday. This eliminates the expected price movements from these next two days, isolating next week only.
|July 6 Expiration||July 13 Expiration||Movements in week of July 9|
|AA 9.00 call||($0.11)||$0.28||$0.17|
|AA 9.00 Put||($0.07)||$0.24||$0.17|
Please note that this is a non-directional prediction; the $0.34 could be up or down. The options market is pricing in a $0.34, or 3.76%, move for Alcoa next week. The market is merely predicting the price volatility.