Optimistic traders have bid up the share prices of Google parent Alphabet Inc. (GOOG) ahead of its fiscal second quarter earnings announcement. At first glance, it appears that option traders are predicting a positive move, as there are a sizable number of call options in the open interest. The unusual option trading has the possibility to create a downward trend in the price action if GOOG delivers an unfavorable earnings surprise.

A sizable amount of call options remain in the open interest for GOOG, and option premiums are unusually high right now. The trading volumes indicate that traders have been selling puts and buying calls in anticipation of a positive earnings report. There could be unexpected downward pressure on GOOG's share price if these bets were to unwind.

Accurately predicting the direction a stock will move following earnings is difficult. However, a juxtaposition of the stock's price action and option trading activity shows that, if GOOG delivers an underwhelming announcement, the company's share price could fall significantly, moving closer to its 20-day moving average in the days after the announcement. This is possible because options are priced for a move upwards, but a surprisingly poor report could catch traders off guard and create a swift decline in share price.

Key Takeaways

  • Investors and traders have bid up the GOOG share prices to an extreme range before the earnings announcement.
  • The share price recently found its all-time high, closing well above its 20-day moving average.
  • Call and put pricing is forecasting a stronger upwards move.
  • The volatility-based support and resistance levels allow for a larger move to the downside. 
  • This situation creates an opportunity for traders to profit from unforeseen earnings results.

Option trading represents the actions of investors who wish to protect their positions, or speculators who desire to profit from accurately predicting unexpected moves in an underlying stock or index. That makes option trading a literal bet on market probabilities. By comparing the details of both option behavior and the share price, chart watchers can infer valuable insight, although it is crucial to understand the context in which this price behavior took place. The chart below illustrates the price action for the GOOG share price as of Monday, July 26. This created the setup heading into the earnings announcement.

Earnings pricing for Alphabet Inc. (GOOG)

Current Trends

Over the course of the last month, the trend of GOOG stock has had the shares briefly closing below its 20-day moving average, before rising to the extreme bands of the volatility range. Over this time period, it's notable that the lowest GOOG share price was roughly $2,495 at the beginning of July. The highest price in the last month was approximately $2,795, an all-time high, the day before the report was due to be announced. The price closed in the upper region shown 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 moved to a higher range in the week before earnings. This price move from GOOG shares implies that investors expect a positive earnings result.

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 two to four weeks of trading on a daily chart.

In this context where the share price trend for GOOG has risen to an extreme range, chart watchers can recognize that investors and traders are showing optimism headed into the earnings announcement. In the week before earnings, GOOG's share price slightly fell closer toward the 20-day moving average before rallying to its all-time high. That makes it important for chart watchers to surmise whether the move is indicative of investors' expectations for a favorable earnings report or not.

Option trading details can provide extra context to help chart watchers form an opinion about investor expectations. Recently, option traders are favoring calls over puts by an increasing yet narrow margin. Normally, this suggests that investors are expecting a positive earnings report and that traders appear to be expecting GOOG to continue trending higher after earnings.

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, then this channel indicator makes for an excellent visualization tool when charting historical volatility.

Trading Activity

Option traders recognize that GOOG shares are in an extreme 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 July 30, the Friday after the earnings report is released. The green-framed box represents the pricing that call option sellers are offering. It implies a 38% that GOOG shares will close inside this range by the end of the week if prices go higher. The red box represented the pricing for put options with a 33% probability if prices go lower on the announcement.

It's important to note that the open interest featured over 72,000 active call options compared to roughly 111,000 put options, demonstrating the bias that option buyers had, as well over half of the trades were put options. This amount normally implies that put option traders expect a decline in price. However, because the call box and put box are relatively equal in size, it tells us that the high percentage of put options traded has only mildly skewed expectations lower. It should be noted that the implied volatility of this put option volume is also declining, indicating that put options, while being traded in larger volumes than calls, are being sold more than being bought.

Option pricing for Alphabet Inc. (GOOG)

The purple lines on the chart are generated by a 10-day Keltner Channel study set at four 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 downwards compared to upwards. This suggests that option buyers don't have a strong conviction about how the company will report, even though calls are being purchased over puts. Although investors and option traders do not expect it, a surprising report could push prices dramatically higher or lower.

Volatility pattern for Alphabet Inc. (GOOG)

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, GOOG shares rose by 3.2% in the day following and gradually fell the following week, before moving below the 20-day moving average. Investors may be expecting the same 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

With a $1.8 trillion market cap, GOOG is a bellwether of multiple sectors and overall economic health of the market. As a result, GOOG's earnings can have a direct effect on index prices and will at the very least affect stocks in the technology and communications sectors.

GOOG is also one of the heaviest-weighted stocks in many exchange-traded funds (ETFs), such as State Street's Communication Services Sector Index (XLC), Invesco's QQQ Trust (QQQ), and State Street's S&P 500 Index ETF (SPY). Positive results could also lift other stocks in the sector, such as Facebook, Inc. (FB) or Netflix, Inc. (NFLX).