After The Coca-Cola Company (KO) reported that it had beaten estimates for its second quarter earnings results, option traders are taking actions that imply they think the share price will drift higher in the future. This may come as a surprise considering that the KO share price rose less than 1.3% the day the report was announced.
Coca-Cola reported earnings per share (EPS) of $0.68 and $10.13 billion in revenue, beating analyst expectations calling for EPS of $0.56 and revenue of $9.32 billion. Notably, revenue surpassed pre-pandemic levels of 2019, prompting the soft drink giant to raise its full-year outlook. Prior to the announcement, investors had bid up the share prices, with a sizable amount of put options in the open interest.
Option trading volumes indicated that traders had been buying calls and selling puts; however, options activity after earnings suggest that traders are optimistic that KO could continue to trend upwards going forward. That's because the price action has found support at elevated levels, while option activity implies that traders are both selling puts and buying calls.
Comparing the price action between stock prices and option trading activity on the days following earnings shows some evidence to suggest that option traders may be optimistic. KO's share price rose 1.3% the day of earnings, closing well above its 20-day moving average the day after the announcement. Additionally, call option activity increased, while put option activity decreased. This could happen because options traders believe that KO has found support at these elevated levels and could continue higher in the near term.
- Traders and investors bought shares in KO following the earnings announcement, as the stock gained 1.3%.
- The share price of KO broke further away from its 20-day moving average.
- Put and call option activity appears to be positioned for the price to continue to rise.
- The volatility-based support and resistance levels allow for a stronger move downward than upward.
- This setup creates an opportunity for traders to profit from a reversal in the earnings-based share price increase.
Option trading represents the activities of investors who want to hedge their long positions or speculators who want to profit from correctly predicting unforeseen movement in an underlying stock or index. The choices of these investors imply a forecast for the weeks ahead. That is because option trading is literally a 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 this insight is to understand the context in which the price behavior took place. The chart below depicts the price action for KO's share price on Friday, July 23, illustrating the setup after the earnings report.
The one-month trend of the stock saw shares breaking through resistance in mid-July and trending higher, before rising 1.3% on the day of the announcement and dropping less than 1% the day after that. The 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 risen from the middle portion of this range to the upper bounds. This price move from KO shares implies that investors may be gaining confidence in KO moving 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 confidence going into earnings, based on the price trend for KO approaching the top third of the range. 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 KO would move upwards 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 option traders implies that they consider KO shares undervalued and have purchased call options as a bet that the stock will close within the box depicted in the chart between today and Aug. 20, the next monthly expiration date for options. The green-framed box represents the pricing that the call option sellers are offering. It implies a 70% chance that KO shares will close inside this range or higher by Aug. 20. 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 30% 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 Friday featured nearly 478,000 call options compared to roughly 307,000 put options, demonstrating the bias that option buyers had, as traders favored calls over puts. This normally implies that option traders expect upwards price movement. After earnings, the volatility has decreased dramatically, but the number of put options in the open interest decreased, and the number of call options increased. This signals that call options are being bought, rather than sold, creating a bullish sentiment. For the strikes at the money and one step either direction, the call volume far outweighs the put volume. Out-of-the-money put option volume declines at a much faster rate than out-of-the-money call volume, signifying that more traders believe that KO share prices will rise than those who believe share prices will decline.
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 lower. This suggests that option buyers don't have a strong conviction about how the company will move in the weeks following the report. Although investors and option traders expected positive movement from the report, the share price moved a larger distance 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, KO shares rose less than 1% in the day following and gradually rose the following week. Investors may be expecting the same 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 downside.
Coca-Cola beat analysts' EPS and revenue expectations. Revenue exceeded pre-pandemic levels of 2019, causing the company to raise its revenue outlook for the year. Investors expressed confidence in the company, buying shares and sending the share price to the higher of the volatility range on the charts. Option traders appear to be buying calls and selling puts, expressing bullish sentiment. This activity, however, does provide more room in the volatility range for a downward move in the share price going forward.