Roku (ROKU) Option Traders Tuning in Ahead of Earnings

Investors of Roku, Inc. (ROKU) have kept the share prices range bound ahead of the company's fiscal second quarter earnings announcement. At first glance, it appears that option traders are positioned for a positive move, as the number of call options is rising in the open interest. The unusual option activity could create a strong downward trend in the price action if ROKU delivers a negative earnings surprise.

A growing number of call options remains in the open interest for ROKU, and option premiums are currently at an usually elevated level. Trading volumes indicate that traders have been buying calls and selling puts in anticipation of a favorable earnings report. Unwinding these bets could result in unexpected downward pressure on the share price of ROKU. 

Accurately predicting the direction a stock will move after earnings is difficult. However, a comparison between the stock's option activity and price action shows that, if ROKU delivers a negative report, the company's share price could decline significantly, moving further below its 20-day moving average after the announcement. This could happen because options are priced for an upwards move, but unforeseen poor news could catch traders by surprise and create a swift decline in share price.

A comparison between the details of both stock price and option behavior can grant chart watchers valuable insight. However, it is necessary to understand the context in which this price behavior took place. The chart below illustrates the price action for the ROKU share price as of the morning of Tuesday, Aug. 3. This created the setup leading into the earnings report.

Current Trends

Over the past month, the trend for ROKU stock has the share price falling from the extreme highs of the volatility range and declining below the 20-day moving average, before repeating this same process. In this time period, it's notable that the lowest ROKU share price was roughly $393 in mid-July, whereas the highest share price was over $490, an all-time high, just one week prior to earnings. 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 fallen below the 20-day moving average in the week before earnings. This price move from ROKU shares implies that investors are wary about the earnings report.

In this context where the price trend for ROKU has fallen to an average range, chart watchers can recognize that traders and investors are expressing doubt going into earnings. It's notable that, in the week before earnings, ROKU's share price touched its all-time high before falling below the 20-day moving average a few days before the report. 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 additional context to help chart watchers form an opinion about investor expectations. Recently, option traders are favoring calls over puts by a slim margin, even though the open interest has a slightly larger number of puts than calls. Normally, this volume indicates that traders are slowly changing their expectations toward the earnings report.

Trading Activity

Option traders recognize that ROKU shares have fallen to an 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 Aug. 6, 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% chance that ROKU 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 is necessary to note that the open interest featured over 150,000 call options compared to roughly 155,000 puts. However, it is notable to add that, on Monday, over 55,000 calls were traded compared to 31,000 puts, and the put/call ratio has been falling over the past five days, indicating that call option buyers are gaining confidence. However, because the call box and put box are relatively equal in size, it tells us that the growing percentage of call options traded has only mildly skewed expectations higher. A far more complacent outlook is implied.

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 either way, but with slightly 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 call volumes outweigh put volume. Although investors and option traders do not expect it, a surprising report would push prices dramatically higher or lower.

These support and resistance levels show a large range of support and resistance for prices. As a result of this, 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, Roku shares rose 11.6% the day after earnings before falling 4.9% the next day and gradually rising for the next several weeks. Investors may be expecting a similar 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

ROKU is hardly a bellwether stock, so its earnings results likely won't have a direct impact on indexes. No matter what the report says, it could have a significant impact on stocks in the entertainment industry. A positive report could lift other stocks in the industry such as Netflix, Inc. (NFLX), Dish Network Corporation (DISH), or ViacomCBS Inc. (VIAC). It could also affect exchange traded funds (ETFs) such as Vanguard's Total Stock Market ETF (VTI) or Invesco's Dynamic Software ETF (PSJ).