After DocuSign, Inc. (DOCU) reported that it had beaten analyst expectations for its fiscal second quarter earnings results, option traders are taking actions that suggest that they think the share price will move higher in the future. This may come as a surprise considering the share price fell in the days after the announcement.
DocuSign reported earnings per share (EPS) of $0.47 and revenue of $511.84 million, exceeding forecasts calling for EPS of $0.40 and revenue of $487.99 million. In addition to beating expectations, DOCU received several price target upgrades while forecasting a slowdown in growth going forward. Prior to the announcement, investors had kept DOCU's share price range bound, closing right around its 20-day moving average.
Traders and investors had kept the share price of DOCU range bound before earnings. However, option trading activity after earnings indicate that investor confidence in DOCU's share price going forward is rising. Despite the price action falling to a below average range, recent option activity implies that traders are buying call options and selling puts.
- Investors and traders sold off shares of DOCU following the earnings announcement. The stock rose 5.2% the day after earnings but fell 5.9% the day after and 3.3% the next day..
- The share price of DOCU closed below its 20-day moving average.
- Put and call option activity appears to be positioned for the share price to rise.
- The volatility-based support and resistance levels allow for a stronger move to the upside.
- This setup creates an opportunity for traders to profit from a reversal in the earnings-based share price decline.
Option trading is a literal bet on the probabilities of the market—a bet made by traders that are, on average, better informed than most investors. The key to maximizing insight into option trading is to understand the context in which the price movement took place. The chart below illustrates the price action for DOCU's share price as of Sept. 9, illustrating the setup after the earnings report.
The one-month trend of the stock saw the share price remaining in the middle of the volatility range, before falling below the 20-day moving average after the announcement, closing near the bottom third of the volatility range depicted by the technical studies on this chart. These 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 fallen to the lower third of the volatility range. This price move from DOCU shares implies that investors are losing confidence in the share price of DOCU going forward.
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.
Chart watchers can recognize that traders were expressing ambivalence going into earnings, based on the price trend for DOCU closing right around the 20-day moving average. Chart watchers can also form an opinion of investor expectations by paying attention to option trading details. Prior to the announcement, traders appeared to be expecting that DOCU shares would move downwards after earnings.
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.
The recent activity of options traders implies that they consider DOCU shares undervalued and have bought call options as a bet that the stock will close within the box depicted in the chart between today and Sept. 17, the next monthly expiration date for options. The green-framed box represents the pricing that the call option sellers are offering. It implies a 69% chance that DOCU shares will close inside this range or higher by Sept. 17. So sellers are only mildly bullish. However, buyers are snapping up this pricing, suggesting that buyers consider these options underpriced. Since the pricing implies only a 31% chance that prices could close above this green box, it appears that buyers are willing to take those long odds.
It is important to note that open interest on Wednesday featured over 165,000 call options compared to over 209,000 puts, demonstrating the bias that option buyers had. This normally implies that option traders expect downward price movement. After earnings, volatility has decreased dramatically, but the number of call options in the open interest increased. This signals a bullish sentiment.
For strikes at the money and one step either direction, the call volume outweighs the put volume. Out-of-the money call volume declines at a much slower rate than out-of-the money put volume. However, it should be noted that the implied volatility of this put option volume is declining, indicating that put options, while still being traded in large volumes, are being sold more than purchased.
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 disparity with plenty of space to run upwards. This suggests that option buyers have a stronger conviction of the price moving higher in the weeks following the report. Although investors and option traders expected negative movement from the report, the share price moved less to the downside than it did after the last earnings report.
These support and resistance levels show a large range of support and resistance for prices. As a result, it is possible that there could be a large move in either direction in the near future. After the previous earnings announcement, DOCU shares rose 19% in the day following and continued to rise the following week. Investors may be expecting a similar kind of move in price in the week after this announcement. With lots of room in the volatility range, share prices could rise or fall more than expected in the near term. However, there is more room in the volatility range to support a move to the upside.
DocuSign exceeded analyst expectations for revenue and EPS. The company received several price target upgrades but also forecast a slowdown of growth going forward. The price rose 5.2% the day after earnings before falling 5.9% the day after and 3.3% the next day, closing below its 20-day moving average. Option traders appear to be buying calls and selling puts, which translates into a bullish outlook. This activity, however, does provide more room in the volatility range for an upward move in the share price in the future.