RIMM Long Strangle Options: Volatility Exercise

Yesterday, on CNBC, I noticed a great deal of hoopla on the earnings announcement from RIMM expected later that evening. I hadn't been following RIMM specifically, but this reminder forced me to revisit a volatility options play I've employed in the past. I knew that given the volatile nature of the business, impending competition with Apple, the low consumer sentiment at the moment and other dynamic issues in the economy, the earnings report would generate great euphoria or great disappointment. I assumed the stock would not move a mere 3% after hours.

With this in mind, I entered into a long strangle position (Apple example here from several months ago). The stock was trading at $140 per share at the time of entry. I bought a July 155 Call and a July 125 Put, looking for roughly a 10% move in either direction to get into the money. Well, post announcement, there was disappointment due to greater than expected expenses in the quarter and some concerns over the outlook. The stock promptly crashed to 128 (9% down) as of pre-market trading now.

Sounds like I made a ton of money, right? Well, the volatility component of the options will have dropped off in large degree as well, since the market was anticipating great volatility (I'm not the only one out there with this idea). Therefore, when the market opens today, the put option will likely be worth a bit more than when I bought it and the call option will be virtually worthless. The thinking is that if there is some follow through past 125 down, the option really starts to move to the tune of 50 cents on the dollar at the money and it increases past that. If the stock is languishing today, I may just buy a 130 call (which will be much cheaper now than an at the money call yesterday) to lock in a range of no option value (125-130). The probability that RIMM will not vary from this range is virtually nil. Either way, it's a very volatile stock and I have a full month to see what happens. In a perfect world, the stock goes to 120, I exercise the put for a profit, then the stock recovers in the next several weeks and I can sell the call as well. I wouldn't plan for that, but it's a possibility.

The end strategy is to sell the put for greater than the sum of the amount I paid for the call and the put yesterday. I will update with today's options valuations and my next move; perhaps this will generate some trading ideas for you for the next hot earnings announcement - Google, Apple, Amazon and more?

Do you see yourself profiting from the other side of this trade? You could just have easily SOLD the same options I bought next time (I'd probably protect myself a bit with a cheap way out of the money option to close the position on either end though; with my luck, the stock would move 50% that time!).

Comments

[EverydayFinance]

Well, RIMM dropped 13% yesterday and is down another 2% in pre-market today, so the strategy is well into the money. I might actually think about playing the other side of this one as earnings expectations from the likes of RIMM mature. In this case, I have a marginal gain of a few hundred dollars locked in.