Adobe (ADBE) Option Traders Betting Bearishly

Put options on the rise in open interest

Investors of Adobe Inc. (ADBE) have bid down the share prices ahead of the software company's fiscal fourth quarter earnings announcement. At first look, it appears option traders are positioned for a negative move, as the number of put options is growing in the open interest. The unusual option activity could induce a strong downward trend in the price action if Adobe delivers poorer-than-expected earnings results.

A growing number of put options remain the open interest for Adobe, and option premiums are at an unusually elevated level right now. Trading volumes indicate that traders have been buying puts and selling calls in anticipation of an unfavorable earnings result. If these bets were to unwind, it could create unforeseen upward pressure on the share price of Adobe.

Correctly predicting the direction a stock will move following earnings is difficult. However, a comparison between the stock's price action and option activity shows that, if Adobe delivers a positive report, the company's share price could rise above its 20-day moving average after the announcement. This could happen because options are priced for a move downwards, but unexpected good news could catch traders by surprise and propel the share price upwards.

Key Takeaways

  • Investors and traders have bid down the share price of Adobe ahead of the earnings announcement. 
  • The share price has recently closed below its 20-day moving average. 
  • Call and put pricing is predicting a stronger move to the upside. 
  • The volatility-based support and resistance levels allow for a stronger move to the upside. 
  • This setup offers an opportunity for traders to profit from a surprising earnings result.

A comparison between the details of both option behavior and stock price can grant chart watchers valuable insight. However, it is necessary to have an understanding of the context in which this price action took place. The chart below depicts the price action for the Adobe share price as of Tuesday, Dec 14. This created the setup leading into the earnings announcement. 

Earnings results for Adobe (ADBE)

Current Trend

Over the past month, the trend for Adobe stock has the share price starting above, then falling below the 20-day moving average to a below average range. In this time period, it's notable that the lowest Adobe share price was around $600 in mid-December, whereas the highest share price was roughly $700 in mid-November. The share price closed in the middle region depicted by the technical studies on this chart.

The studies are formed by 20-day Keltner Channel indicators. These depict price levels that represent a multiple of the average true range (ATR) for the stock. This array helps to highlight the way the price has remained below the 20-day moving average in the week before earnings. This price move from Adobe shares implies that investors' confidence is waning as the earnings report approaches.

Tip

The average true range (ATR) has become a standard tool for depicting historical volatility over time. The typical average length of time used in its calculation is 10 to 20 time periods, which includes one to two weeks of trading on a daily chart.

In this context where the price trend for Adobe has recently been unable to move above its 20-day moving average, chart watchers can recognize that traders and investors are expressing pessimism ahead of earnings. In the week before earnings, the Adobe share price moved in a slight upward trend toward the 20-day moving average before dropping sharply below this key level. That makes it important for chart watchers to determine whether the move is reflecting investors' expectations for favorable earnings or not. 

Option trading details can provide chart watchers additional context to help them form an opinion about expectation that investors may have. Recently, option traders are favoring puts over calls by a noticeable margin. On Tuesday, there were over 48,000 puts trades as opposed to 31,000 calls. Normally, this volume indicates that traders are feeling bearish toward the upcoming earnings result.

Tip

The Keltner Channel indicator displays a set of semi-parallel lines based on a 20-day simple moving average and an upper and lower line. Because the upper lines are drawn by adding a multiple of ATR to the average and the lower lines are drawn by subtracting a multiple of ATR from the average price, this channel indicator makes for an excellent visualization tool when charting historical volatility.

Trading Activity

Option traders recognize that Adobe shares are in a below average range and have priced their options as a bet that the stock will close within one of the two boxes depicted in the chart between today and Dec. 17, the Friday after the earnings report is released. The green-framed box represents the pricing that call option sellers are offering. It implies a 37% probability ADBE shares will close inside this range by the end of the week if prices go higher. The red box represents the pricing for put options with a 34% chance if prices go lower on the announcement. 

It's necessary to note that the open interest featured 141,000 puts compared to 104,000 calls, demonstrating the bias that option traders had. That traders favored puts over calls. Along with recent trading volumes also favoring puts over calls, it's notable that put open interest is currently much higher percentage-wise when compared to the individual 52-week averages of call and put open interest on a percentage basis. This means that most signs regarding options are pointing in a bearish direction.

Option pricing for Adobe (ADBE)

The purple lines on the chart are generated by a 10-day Keltner Channel study set at 4 times the ATR. This measure tends to create highly correlated regions of strong support and resistance in the price action. These regions show up when the channel lines make a noticeable turn within the previous three months.

The levels that the turns mark are annotated in the chart below. What is notable in this chart is that the call and put pricing are in such a close range with plenty of space to run either way, but with much more room to the upside. This suggests that option buyers don't have a strong conviction about how the company will report, even though recent put volumes outweigh call volume. Although investors and option traders do not expect it, a surprising report would push prices dramatically higher or lower.

Volatility pattern for Adobe (ADBE)

These support and resistance levels show a large range of support and resistance for prices. As a result, it is possible that any news, surprisingly bad or good, will catch investors by surprise and could generate an unusually large move. After the previous earnings announcement, Adobe shares fell by 3% the day after earnings and continued to fall the following week. Investors may be expecting a similar kind of move in the price after this announcement. With plenty of room in the volatility range, share prices could rise or fall more than expected.

Market Impact

Adobe may not be considered a bellwether stock. However, the company is firmly entrenched in the operations of the business world. Even so, its results most likely won't have a direct effect on index prices.

No matter what the report says, it could have an impact on stocks in the software industry. A positive report could lift other stocks in the industry such as Oracle Corporation (ORCL) or Block, Inc. (SQ), formerly known as Square. Adobe's results could also have an impact on exchange traded funds (ETFs) such as iShares' Expanded Tech-Software Sector ETF (IGV), 6 Meridian's Quality Growth ETF (SXQG), and perhaps even Invesco's QQQ Trust (QQQ).