You can see the obligatory vol crushes after earnings. The blog from yesterday setting up the pair trade is available HERE.
The Skew charts from yesterday (pre-earnings) and today (post-earnings) are included below (click any image to enlarge it).
Skew legend:
Red - Front Month
Yellow - Second Month
Green - Third Month
Light Blue - Fourth Month
So what was the hypothetical winning pair trade yesterday?
Version 1
Assume we wanted to be contract neutral
(1) Sell 1 Front AMZN ATM (125) straddle --> Collect 14.75
(2) Buy 1 Front MSFT ATM (29) straddle ---> Pay 2.29
Today:
(1) Buy 1 AMZN straddle back ---> Pay 10.10
(1) Sell 1 MSFT straddle back ---> Collect 1.45
PnL = (14.75 - 10.10) + (1.45 - 2.29) = $3.81 (i.e. make $381 for each pair of straddles).
But the risk yesterday could have also been seen as a vol (vega) risk.
Version 2
Assume we wanted to be vol neutral
(1) Sell 1 Front AMZN ATM (125) straddle ---> Collect 14.75: get short ~120 vol points
(2) Buy 1.5 Front MSFT ATM (29) straddle ---> Pay 2.29: get long ~ 120 vol points
Today:
(1) Buy 1 AMZN straddle back ---> Pay 10.10
(1) Sell 1.5 MSFT straddle back ---> Collect 1.45
PnL = (14.75 - 10.10) + 1.5*(1.45 - 2.29) = $3.39 (i.e. make $339 for each pair of straddles).
That's the winning trade. Note that this is a $130 stock vs a $29 stock so a vega hedge would be a much more proper trade. I have left this step to the reader but ultimatley it means more MSFT to AMZN.
If you follow the belief that the vol was spiking do to dual phenomenon (link in prior blog) and watched the AAPL vol crush - you might have been lead to do this trade. Of course, finding the right trade after the fact is pretty easy...
You can see from the skew charts (before and after) that the AMZN straddle was the better sale relative to MSFT without going through the whole trade analysis as well. Just look at the dip in the AMZN red line (front month) relative to MSFT above.
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