Investors of Exxon Mobil Corporation (XOM) have expressed doubt ahead of the company's fiscal second quarter earnings announcement by bidding down the share price. At first glance, it appears that option traders are predicting a positive move, as there are a large number of call options in the open interest. The unusual option trading may create a strong upward trend in the price action if XOM delivers a favorable earnings surprise.
A sizable amount of call options remain in the open interest for Exxon Mobil, and option premiums are unusually high right now. Trading volumes and implied volatility indicate that traders have been buying calls and selling puts in preparation of a positive earnings report. Unwinding these bets could result in unexpected downward pressure on XOM's share price.
Correctly predicting the direction a stock will move after earnings is difficult. However, a comparison between the stock's price action and option trading activity shows that, if XOM delivers a negative earnings report, the company's share price could fall significantly, moving closer to its 20-day moving average in the days after the announcement. This could happen because options are priced for an upwards move, but unexpected poor news could catch traders off guard and create a swift decline in share price.
- Traders and investors have bid down Exxon Mobil share prices to a below average range headed into the earnings report.
- The share price has recently been closing below its 20-day moving average.
- Call and put pricing is expecting a stronger move to the upside.
- 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 unexpected earnings results.
Option trading represents the activities of investors who desire to protect their positions or speculators attempting to profit from accurately predicting the unexpected moves in an underlying stock or index. That makes option trading a literal bet on market probabilities. By comparing the details of stock prices and option behavior, chart watchers can gain valuable insight, although it is helpful to understand the context in which this price behavior took place. The chart below illustrates the price action for the XOM share price as of the morning of Wednesday, July 28. This created the setup leading into the earnings report.
The one-month trend of XOM stock has the shares falling below its 20-day moving average, declining into the bottom third of the volatility range. Over the past month, it's notable that the lowest XOM share price was roughly $55 in mid-July, whereas the highest share price was roughly $64 in late June. The price closed in the upper 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 moved to a lower range in the week before earnings. This price move from XOM shares implies that investors expect a negative earnings result.
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 price trend for XOM has been falling to a below average range, chart watchers can recognize that traders and investors are not expressing much optimism going into earnings. In the week before earnings, XOM's share price fell to its one-month low before rising closer to the 20-day moving average. That makes it important for chart watchers to determine whether the move is reflecting investors' expectations for a favorable earnings or not.
Option trading details can provide additional context to assist chart watchers in forming an opinion about investor expectations. Recently, option traders are favoring calls over puts by a wide margin, with calls being bought over puts nearly 6-to-1 by the time of writing Wednesday morning. Normally, this suggests that investors are expecting a positive earnings report and that traders appear to be expecting XOM to move higher 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.
Option traders recognize that XOM shares are in a subdued 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 39% chance that Exxon Mobil 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 39% probability if prices go lower on the announcement.
It's important to note that the open interest featured over 870,000 active call options compared to roughly 573,000 put options, demonstrating the bias that option buyers had. That over 60% of the trades were call options. This amount normally implies that call option traders expect a jump in price. However, because the call box and put box are relatively equal in size, it tells us that the high percentage of call options traded has only mildly skewed expectations high. 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 upwards compared to downwards. This suggests 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 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, XOM shares rose by 2.76% in the day following and continued to rise the following week. 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.
XOM shares typically make small moves after earnings, so the result is unlikely to move index prices directly. However, no matter what the report says, it will likely have a direct impact on stocks in the energy sector. A positive report could lift other stocks in the sector such as Chevron Corporation (CVX) or BP PLC (BP). It would also affect exchange-traded funds (ETFs) such as State Street's Energy Sector Index ETF (XLE) and potentially State Street's S&P 500 Index ETF (SPY).