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Your Option Strategies In Nordson Corporation Pre-Earnings

Nordson Corporation (NDSN) engineers, manufactures and markets differentiated products and systems used to dispense, apply and control adhesives, coatings, polymers, sealants, biomaterials and other fluids, to test and inspect for quality, and to treat and cure surfaces. It is reporting earnings on Monday, August 22, after market close:

(Source: TD Waterhouse)

As evident from the above, the company beat earnings estimates in 63% of time in the last eight quarters, underperforming in the rest of time, and has seen significant volatility and a strong positive trend in the market price of its stock over the last three months:

The market participants expect the following numbers over the next few quarters, including the upcoming one:

(Source: TD Waterhouse)

Market data show that the September options are overvalued:

(Source: TD Waterhouse)

The four-week straddles (options with a strike price of $90.00 and expiring on September 19, 2016) are worth around 9.8% of the current market price of the stock. Historically, the stock has been less volatile than that on a monthly basis over the last year:

(Source: Google Finance. Calculations by author)

As you can see, the stock has had a monthly standard deviation of 8.6% over the last 52 weeks, while the straddle expiring in a less than four weeks has an implied monthly volatility of around 8.5% (calculated based on 21 business days remaining until expiration), also including volatility from the earnings event next week. I therefore see signs of overvaluation in these options. Hence, selling the straddles is a good idea from a theoretical standpoint.

Investors may also be interested in buying calendar spreads to capitalize on the above-average implied volatility associated with the earnings event:


On the one hand, this will limit expected returns. On the other hand, this action will minimize losses in the event the stock does moves swiftly over the next four week. The risk-return profile of this trade looks like this:


As you can see from the above illustration, the "window of safety" is around 15.4%. This means that the stock has to move roughly 8.0% in either direction from the current price by expiration in order for investors to start losing money. The risk-reward ratio of around 1:1.04 is below-average for this type of option strategies but is deemed appropriate for a low-volatility stock like Nordson Corporation.

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