Optimistic investors of Brookfield Asset Management Inc. (BAM) have bid up the share prices to an extreme range going into the company’s fiscal second quarter earnings results. At first glance, it appears that option traders are positioned for a positive move, as there are a high number of sold put options in the open interest. The unusual option activity could create a strong downward trend in the price action if BAM delivers a negative earnings surprise.
A noticeable number of sold put options remain in the open interest for BAM, and option premiums are unusually high right now. Trading volumes indicate that traders have been selling puts and buying calls in anticipation of a favorable earnings announcement. If these bets were to unwind, it could create unexpected downward pressure on the share price of BAM.
It is difficult to accurately predict the direction a stock will move after earnings. However, a comparison between the stock’s price action and option activity shows that, if BAM delivers a negative report, the company’s share price could fall, moving closer to its 20-day moving average after the announcement. This is possible because options are priced for a move upwards, but unexpected poor news could catch traders by surprise and create a swift decline in share price.
The share price has recently closed well above its 20-day moving average.
Call and put pricing is predicting a stronger move to the upside.
The volatility-based support and resistance levels allow for a stronger move downwards.
This setup creates an opportunity for traders to profit from an unexpected earnings result.
A comparison between the details of both option behavior and stock price can grant chart watchers valuable insight; however, it is imperative to understand the context in which this price action took place. The chart below depicts the price action for the BAM share price as of Wednesday, Aug. 11. This created the setup leading into the earnings report.
Over the past month, the trend for BAM stock has the share price falling below the 20-day moving average, before rising to the top extremes of the volatility range. In this time period, it’s notable that the lowest BAM share price was around $47 in mid-July, whereas the highest share price was roughly $58, an all-time high, in mid-July. The share price closed in the upper region depicted by the technical studies on this chart.
The studies are formed by 20-day Keltner Channel indicators. These depict price levels that represent a multiple of the Average True Range (ATR) for the stock. This array helps to highlight the way the price has to the upper bounds of the volatility range in the weeks before the announcement. This price move from BAM shares implies that investors’ confidence is growing as the earnings report approaches.
The Average True Range (ATR) has become a standard tool for depicting historical volatility over time. The typical average length of time used in its calculation is 10 to 20 time periods, which includes two to four weeks of trading on a daily chart.
In this context where the price trend for BAM has recently closed near the top of the volatility range, chart watchers can recognize that traders and investors are expressing confidence going into earnings. It’s notable that, in the week before earnings, BAM’s share price has continued to rise, briefly touching its all-time high. That makes it important for chart watchers to determine whether the move is reflecting investors’ expectations for favorable earnings or not.
Option trading details can provide chart watchers with additional context to help them form an opinion about investor expectations. Recently, option traders are favoring calls over puts by a noticeable margin. On Tuesday, there were 443 calls traded as opposed to over 6 puts. Normally, this volume indicates that traders are feeling bullish toward the upcoming announcement.
The Keltner Channel indicator displays a set of semi-parallel lines based on a 20-day simple moving average and an upper and lower line. Because the upper lines are drawn by adding a multiple of ATR to the average and the lower lines are drawn by subtracting a multiple of ATR from the average price, then this channel indicator makes for an excellent visualization tool when charting historical volatility.
Option traders recognize that BAM shares are in an extreme range and have priced their options as a bet that the stock will close within one of the two boxes depicted in the chart between today and Aug. 20, the Friday after the earnings report is released. The green-framed box represents the pricing that call option sellers are offering. It implies a 53% probability that BAM shares will close inside this range by the end of the week if prices go higher. The red box represents the pricing for put options with a 20% chance if prices go lower on the announcement.
It’s necessary to note that the open interest featured over 18,000 calls compared to over 26,000 puts, demonstrating the bias that option buyers had. That traders favored puts over calls. It’s notable that call volume outweighed put volume on Tuesday over 73-to-1, which could further skew open interest numbers in favor of call options. Even though there are a high number of puts in the open interest, implied volatility for these options has been dropping, which means that these options are being sold, rather than bought.
The purple lines on the chart are generated by a 10-day Keltner Channel study set at four times the ATR. This measure tends to create highly correlated regions of strong support and resistance in the price action. These regions show up when the channel lines make a noticeable turn within the previous three months.
The levels that the turns mark are annotated in the chart below. What is notable in this chart is that the call and put pricing are in such a close range with plenty of space to the downside. This suggests that option buyers don’t have a strong conviction about how the company will report, even though recent call volumes outweigh put volume. Although investors and option traders do not expect it, a surprising report could push prices dramatically higher or lower.
These support and resistance levels show a large range of support and resistance for prices. As a result, it is possible that any news, surprisingly bad or good, will catch investors by surprise and could generate an unusually large move. After the previous earnings announcement, BAM shares rose by 6.26% the day after earnings and continued to rise the following week. Investors may be expecting a similar kind of move in the price after this announcement. With plenty of room in the volatility range, share prices could rise or fall more than expected.
BAM isn’t exactly a bellwether stock, so its earnings results most likely won’t move indexes directly. However, no matter what the report says, it should have an effect on stocks in the asset management industry. A positive report could lift other large-cap stocks in the sector such as Blackstone Inc. (BX), BlackRock, Inc. (BLK), or KKR & Co. Inc. (KKR). It could also affect exchange traded funds (ETFs) such as Invesco’s International Dividend Achievers ETF (PID).