RHT Analysis

Red Hat Inc. (RHT)

Update 12/20/2017: RHAT came in 1.46% below analysts’ earnings estimate, reporting $0.73 against a consensus of $0.74. After the announcement, shares fell $1.35 from the close in the first half hour of after-hours trading, then recovered $5.14 of the fall before the opening bell. The first 7-1/2 hours after the bell saw a fall of $5.11. I exited early at 21.8% of maximum potential profit.

Shares declined by 3.4% over my holding period of less than a day, or a -1,223% annual rate. The options position produced a +27.9% return for a +10,177% annual rate.

I went into the trade with Zacks showing a bullish rank (2) with the earnings surprise predictor at a -0.10% score, suggesting a small chance of a negative surprise. The trend metrics showed little or no trend but with an upward bias. The average directional index (ADX) stood at 24.35 going into the trade, the positive direction index (+DI) at 27.74 and the negative (-DI) at 21.26.

Those Zacks and trend metrics were all in line with what actually occurred with earnings, but not the post-announcement price movements.

The estimated move, based on options pricing, was $7.69. The actual movement from the pre-announcement close to the post-announcement low was a decline of $8.85, which moved beyond the $7.57 downside profit zone.

The movement form the pre-earns close to the close on the first trading day after the announcement was -$6.86, within the average and maximum of the four prior earnings announcements, but a bit larger than the central tendency.

RHT publishes earnings on Tuesday after the closing bell.

I shall use options that trade for the last time 10 days hence, on Dec. 29.

Implied volatility stands at 38%, which is 3.8 times the VIX, a measure of the volatility of the S&P 500 index.

RHT’s IV stands in the 80th percentile of its annual range and the 82nd percentile of its most recent broad movement.

The price used for analysis was $128.90. RHT has a small expectation of a negative earnings surprise and no well-established trend, so I shall use a direction-neutral iron fly construction for the proposed trade.

Premium: $7.43 Expire OTM
RHT-iron fly Strike Odds Delta
Long 140.00 85.9% 16
Break-even 136.43 76.0% 25
Short 129.00 53.1% 50
Short 129.00 46.9% 50
Break-even 121.43 74.0% 22
Long 114.00 88.7% 10

The premium is 57.2% 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 $7.43 move to the upside and a $7.57 move to the downside. The biggest immediate move after each of the past four earnings announcements was $11.08, and the average was $7.07. After eliminating the maximum and minimum post-earnings movements, the central tendency is $6.47.

The expected move covering 85% of occurrences is $7.69, slightly beyond the profit zones in either direction.

The bid/ask spread is 7.4%.

Decision for My Account

I have entered a position on RHT as described above. The stock at the time of entry was priced at $128.66.

By Tim Bovee, Portland, Oregon, Dec. 19, 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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