The retailer will report earnings ahead of tomorrow's open
Retail earnings season is heating up, with home improvement name Home Depot Inc (NYSE:HD) scheduled to report its first-quarter results before the market opens tomorrow, May 15. The Dow stock has a history of muted earnings reactions -- averaging a next-day move of just 1.5% over the past eight quarters -- and options traders appear to be betting on more of the same.
Specifically, HD's May 182.50 put has seen the biggest rise in open interest over the last two weeks, with 7,255 contracts added. Data from Trade-Alert indicates the bulk of this action occurred last Thursday, May 9, when several mid-sized blocks were sold to open. If this is the case, the traders expect Home Depot to settle north of $182.50 at this Friday's close, when front-month options expire.
However, the put writers may also be betting on a post-earnings volatility crush. Heading into a known event like earnings, volatility is often bid higher, creating richer premiums. After the uncertainty of the event is lifted, implied volatilities tend to drop sharply -- a potential boon for premium sellers. Most recently, the implied volatility (IV) term structure for front-month HD options was 38.03%, compared to the monthly June options IV term structure of 21.86%.
Although HD stock's recent history of earnings reactions has been mostly negative -- the shares have closed lower the day after their report in five of the last eight quarters -- the current trend appears to be to the upside. The security is up almost 12% since it bounced off its 200-day moving average in early April, last seen trading 0.2% higher at $190.67. Above here, though, is potential resistance near $192.40, which is a 23.6% Fibonacci retracement of HD's rally from its July lows to its January record high at $207.61.
Against this backdrop, sentiment outside of the options arena is upbeat. Of the 27 brokerages covering Home Depot shares, 22 maintain a "buy" or better rating, with not a single "sell" to be found. Plus, the average 12-month price target of $211.24 is a 10.4% premium to current trading levels.
Shorts have been hesitant to bet against HD stock, too. The 9.8 million shares sold short represent less than 1% of the equity's available float, and would take just two days to cover, at the average pace of trading.