Combining NDX and NVIDIA Option Positions Around NVIDIA Earnings

Ahead of Nvidia's (NVDA) earnings report, an analysis of the Nasdaq-100 (NDX) and its options pricing reveals a potential trading strategy involving combined short straddles of NDX (or XND, the micro index) and NVDA. Historically, both NDX and NVDA ATM straddles have overpriced the subsequent price changes, with sellers profiting in 7 of the last 12 earnings reports; combining NDX/XND and NVDA straddles improved profitability to 8 of 12 reports, suggesting an opportunity to capitalize on the market's reaction to NVDA's earnings beyond just trading NVDA options alone.

Analysis

NVIDIA's (NVDA) upcoming earnings report on May 28 is a significant event, particularly due to its position as the second-largest Nasdaq-100 (NDX) component and its reporting schedule outside the main earnings season. Historical data from the previous twelve NVDA earnings reports indicates an average absolute price move of +/-7.72% for NVDA and +/-1.45% for the NDX on the subsequent trading day, with the NDX's move being notably larger than its typical daily average of +/-0.89% over the same period, highlighting NVDA's influence. At-the-money (ATM) straddles for both NVDA and NDX, using options expiring in two days, have historically overpriced the actual earnings-driven move in seven out of the last twelve instances (58.33%), implying potential profitability for consistent straddle sellers. Last quarter, NVDA's stock experienced its largest negative reaction in three years, yet selling an NVDA ATM straddle still yielded a profit of 1.00 point (11.85 pre-earnings vs. 10.85 post-earnings). In contrast, an NDX ATM straddle seller incurred a significant loss in the same period. A proposed strategy combining short straddles on NDX and NVDA, with 50% exposure to each and the number of NVDA straddles determined by the ratio of NDX to NVDA straddle premiums, improved the success rate to eight profitable outcomes out of twelve, generating a cumulative profit of 337.05 points. A similar approach using Nasdaq-100 Micro Index (XND) options (selling five XND straddles and a proportionate number of NVDA straddles) also resulted in eight profitable reports and a net profit of 4.58 points, offering a more accessible alternative.

Key Decisions for Investors

• Investors should be aware of the significant historical volatility surrounding NVDA's earnings, with NVDA shares averaging a +/-7.72% move and the NDX exhibiting a heightened +/-1.45% move on earnings reaction days, and thus evaluate option strategies sensitive to changes in implied versus realized volatility.
• Consider the historical tendency for 2-day at-the-money straddles on both NVDA and NDX to overprice the actual post-earnings stock movement (profitable for sellers in 7 of 12 past instances); a combined short straddle strategy involving both NDX (or XND) and NVDA options has historically improved this to 8 out of 12 profitable outcomes.
• Traders may explore the viability of selling volatility through these combined NDX/XND and NVDA straddle structures, but should closely monitor the specific option pricing leading up to the May 28 earnings announcement to assess current market expectations and potential mispricings.