Pre-Earnings Volatility Expectations Ramp Up on VMware Stock

VMware, Inc. (NYSE:VMW) is slated to report third-quarter earnings after tomorrow's close. The information technology stock has a history of positive earnings reactions, closing higher the day after the company reported in five of the last eight quarters. This time around, the options market is pricing in a single-session post-earnings swing of 8.3%, per Trade-Alert, and traders appear to be bracing for a move to the downside.

For starters, VMW's 10-day put/call volume ratio of 0.86 at the International Securities Exchange (ISE), Chicago Board Options Exchange (CBOE), and NASDAQ OMX PHLX (PHLX) ranks higher than 80% of all comparable readings taken in the past year. In other words, puts have been bought to open relative to calls at a faster-than-usual clip in recent weeks.

Drilling down, the January 2018 110- and 120-strike puts are home to VMW's top two open interest positions, where 10,333 contracts collectively reside. Data from the major options exchanges confirms buy-to-open activity at each back-month strike, suggesting options traders expect the stock to be sitting south of the strikes at January options expiration.

In recent weeks, shorter-term traders have targeted the weekly 12/1 120-strike put, as well as the December 120 and 125 puts. However, it's not clear exactly what strategy is being used.

Today, VMW options trading is ramping up ahead of earnings, with 2,612 calls and 2,216 puts on the tape -- four times what's typically seen, and volume pacing in the 98th annual percentile. Volatility expectations are on the rise, too, per the stock's 30-day at-the-money implied volatility (IV) of 31.7%, which ranks in the 87th annual percentile. In other words, premium on short-term options is more expensive than usual, relatively speaking.

Looking at the charts, VMW stock has put in a strong performance in 2017, up more than 54% -- fresh off yesterday's record high of $127.56. As such, the security's 14-day Relative Strength Index (RSI) closed last night at 75, well into "overbought" territory, which may explain today's 4.7% drop that has VMware shares trading at $121.26. Nevertheless, the equity is finding a foothold atop its 30-day moving average, which served as support in the first half of the year.