COST Analysis

Costco Wholesale Corp. (COST)

Update Oct. 9, 2017: COST’s earnings beat the Street estimate of $2.04, coming in at $2.08. in the first day of trading after the announcement COST shares declined by $10.07, far greater than the maximum change of the last four earnings releases and about double the 85% confidence expectation. The move was an outlier, and it resulted in a loss for my position.

Zacks Investment Research‘s earnings surprise predictor had a 0.51% chance of a downside surprise prior to the announcement, suggesting that the positive surprise that actually occurred would have a positive impact on prices. The beta, 1.07, did not suggest an outsize move.

The loss at the market open after the announcement was $8.07, so the best strategy would have been to get out immediately. Holding on in the hope of a bounce cost an extra 50% in stock price decline. It would have been better to have exited at the post-announcement opening bell.

Shares declined by 7.4% over my four day holding period, or a -671% annual rate. The options position produced a 41.8% loss for a -4,383% annual rate.

COST publishes earnings on Thursday after the closing bell.

I shall use options that trade for the last time eight days hence, on Oct. 13.

Implied volatility stands at 22%, which is 2.3 times the VIX, a measure of the volatility of the S&P 500 index.

COST’s IV stands in the 92nd percentile of its annual range and the 83rd percentile of its most recent broad movement.

The price used for analysis was $166.56.

Premium: $5.03 Expire OTM
COST-iron fly Strike Odds Delta
Long 177.50 93.2% 7
Break-even 172.53
Short 167.50 55.9% 46
Short 167.50 44.0% 54
Break-even 162.53
Long 157.50 86.5% 12

The premium is 50.3% of the width of the position’s wings.

The risk/reward ratio is 1:1.

The zone of profit in the proposed trade covers a $5 move either way. The biggest immediate move after each of the past four earnings announcements was $7.72, and the average was $5.26. After eliminating the maximum and minimum post-earnings movements, the central tendency is $4.79.

The expected move covering 85% of occurrences is $4.99, within? /the profit zone.

The bid/ask spread is 3.0%.

There is a slight expectation of a negative earnings surprise, and the stock’s beta is slightly below that of the S&P 500.

Decision for My Account

I have entered an order on COST as described above. The stock at the time of entry was priced at $166.56.

The central tendency of the last four post-earnings movements and the expected move are within the profit zone. The stock is not a big mover and although I could be surprised, I’m not warned off by the potential of an earnings surprise.

By Tim Bovee, Portland, Oregon, October 5, 2017


Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.

No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decisions for his or her own account, and take responsibility for the consequences.

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