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A Tech's Pre-Earnings Options Setup

We're not expecting a big move on the news, and we don't see a compelling play.
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Ahead of earnings from Action Alerts PLUS holding Applied Materials, we offer the following take on an option strategy for the stock from Dan Nathan, a fellow CNBC TV contributor and a regular panelist on "Fast Money" and "Options Action." Stephanie and Dan will be launching Action Alerts OPTIONS in October as a separate service, with five options strategies per week for Action Alerts PLUS stocks. Stay tuned.

Event: Applied Materials (AMAT) will report its fiscal third-quarter earnings today after the close. The options market is implying a one-day move of about 4%, compared with the four-quarter average move of only about 1.5% and the eight-quarter average move of about 2.6%.

As for the current options pricing, with the stock trading at about $15.70, the Aug. 17 at-the-money straddle (long call and put of the same strike in the same expiration) is offered at about $0.65. If you bought that, you would need a move of $0.65, or about 4% move in either direction, by Friday's close in order to break even.

Sentiment: Wall Street analysts are fairly mixed on the stock: nine Buys, nine Holds and four Sells, with an average 12-month price target of about $16, just above where the stock is now. Short interest sits at only 1.5% of the float.

Options Volumes / Open Interest: Open interest is skewed toward calls, with total call open interest of about 123,000 contracts and total put open interest at about 96,000 contracts.

Unusual Activity: The only interesting activity since early July of any note was a seller of the October 13 puts back on July 2, after a block of 2,000 was sold at $0.29, a total of 5,000 traded, mostly bid-side on the day when the stock was at around $14.95. The sale was opening, meaning that the trader was initiating the position and at the time there was not sufficient open interest in the line to cover the new position. Whatever the trader's intention, this trade is only profitable if the stock closes above $13.29 on October expiration.

Volatility Snapshot: Implied volatility in September is about 28, and it should fall to about 23 after the event, meaning that options premium will fall nearly 20% before Friday's open. August options are interesting, in that they expire just less than 24 hours after the report. Their premium will go to zero quite quickly, so they should basically be viewed as the implied event move they are predicting.

Price Action / Technicals: Applied Materials has been a massive outperformer to the broad market, up about 37% year to date, while the Philadelphia Semiconductor Index (SOX), of which it is a component, is up only about 23%. From a technical standpoint, since bouncing off of key multi-year support at about $10 in November 2012, the stock has made a very well-defined uptrend, rising some 55% in a series of higher highs and higher lows.

The stock has recently given back about 6% from the 52-week highs, basing below its 50-day moving average, and the next real level of technical support is down about $1 at $14.70, which is the July low. Short-term technical resistance sits about $1 higher at the 52-week high of $16.78. So the stock is right in the middle of its intermediate-term range, and while the implied one-day move for earnings is only about 4%, the real levels of support or resistance in the short term are up or down about 6%.

Action Alert OPTIONS View: Given Stephanie and Jim's view from their preview this morning, "We don't expect material new news on guidance, given that the company just held its analyst meeting a month ago," and because the strikes are a dollar wide and this position is roughly the same price where it was bought, there's not a whole heck of a lot to do in the options, aside from possibly buying disaster insurance in the form of the August 15 puts for $0.10. If you're really worried, this would essentially take off the risk of a meltdown, but it's also very unlikely and would essentially be increasing your cost in the stock by $0.10. So I would recommend sitting tight with your stock, unless you're really concerned about the report.

The trade detailed here is for hedging educational purposes relating to an assumed long in the stock.

Regards,

Dan Nathan, Stephanie Link and TheStreet Research Team

DISCLOSURE: At the time of publication, Action Alerts PLUSwas long AMAT. Dan Nathan had no positions in AMAT stock or options. Action Alerts PLUS will not buy or selloptions.