This week Goldman Sachs published a trade idea in Nvidia call options, recommended through earnings. The trade: $430 strike, September 15th call options, currently priced at $57.03.
We love that Goldman is bringing light to the wonderful world of options trading — but we feel the trade could use a few improvements. If you haven’t already, consider checking out our guide to trading options through earnings season.
The reason Goldman Sachs believes options are more attractive ahead of earnings than at any time in the past 20+ years is likely because stocks are still prone to massive upside and downside moves in the current market, and yet volatility is extremely low relative to history.
When volatility is low, long delta option strategies are often priced at a discount relative to historical averages. However, if you’re going to successfully trade options through earnings season, you’re still going to have to be directionally correct, hit the right strike price, choose the best expiration, and use the right strategy. It’s no simple task, but we’re here to help. Let’s take a look at how we can improve Goldman’s Nvidia earnings options trade.
Nvidia Earnings Options Trade
Nvidia is set to report earnings on August 23rd, and after a massive earnings beat last quarter that nearly set the record for the largest single-day gain in market cap, the bar is set very high. As of this article, Nvidia is up 221% for the year. Goldman is angling for more.
Here’s why Goldman Sachs is bullish on Nvidia going into their upcoming earnings report. Goldman Sachs sees 3% upside to earnings consensus for the upcoming quarter, and an additional 4% upside in the next four quarters. Goldman Sachs analysts said they expect 9.3%, and their price target gives Nvidia a total of 17% upside over the next 12 months.
Because Goldman Sachs has a bullish outlook, but expects only a modest move higher, they opted to recommend $430 strike call options in Nvidia expiring on September 15th.
Improving Goldman Sachs Nvidia Options Trade
There are some things they’re doing right, but overall, we feel there are several things that Goldman could do to improve upon this trade.
To start, this option is deep in the money. That may not seem like a bad thing — in many cases, in the money options are excellent tools. However, one mistake many traders make is risking too much for the illusion of safety.
Let’s think about this: Goldman Sachs expects a 9.3% move following earnings. They’re expecting that it’s up, but what if it’s down? From where the stock is currently ($463 at the time of writing), that would take shares of NVDA down to $421.33, sending the formerly deep ITM option, OTM. Combined with IV crush, that’s a recipe for disaster. One of the best things about options is that you don’t have to risk a large amount relative to the share price in order to gain large amounts of leverage.
And what about the intended result? If Nvidia traded flat from here until earnings, and then experienced the 9.4% gain that Goldman expects, Nvidia shares would be trading at $506.52. That option, which is currently priced at $57.03, would become worth $76.52. This is a lopsided risk. You’re risking all $57.03 for a chance to make 34%. There are safer, (likely) higher probability ways to do that.
Augmenting the Trade: Call Debit Spreads
For instance, you could sell a call against the long call to form a debit spread. Considering this is a pure prediction on Nvidia’s earnings, you could also consider adjusting your expiration to the week of the earnings to cheapen the trade. As a rule, you should buy options that target the date you believe something will occur.
As a comparison to the trade above, you could use the August 25th expiration (two days after Nvidia’s earnings). And rather than a straight call option, you could use a debit spread, which would mitigate some of the IV crush and earnings premium and also amp-up the potential profitability.
For instance, the $485C/$500C August 25th debit spread costs exactly $5.00 per spread ($25.28 for the $485 long call, $20.28 for the $500 short call), and offers a maximum value of 3X if Nvidia rises at least 7.5% following earnings. That’s less than the range that Goldman Sachs expects Nvidia to rise, and it’s risking less than 1/10th the value. While this option is out of the money, it’s likely that whichever direction Nvidia moves, the move will be large, since Nvidia is among the highest beta stock names. In other words, when you’re trading something as high-risk as earnings, you want to use an option that is at least equally high reward.
Alternatively, if Goldman Sachs were attached to the $430 September call, they could opt to use a diagonal spread to lower the cost of that call. In a diagonal spread, you sell a call option that is farther from the money at a nearer expiration date. Diagonal spreads, like debit spreads, offer a defined risk, meaning you cannot lose more than you spend to purchase the spread. In this instance, if Goldman believes Nvidia will only rise 9.4%, they could opt to sell an August 25th $550 strike call against the position for a credit of $9.53 — saving them nearly 20% on their position. For the $550 strike to become profitable for the buyer, Nvidia would need to rise more than 20% — more than double what Goldman believes it will. That means if Goldman is correct in their view, this option would be worth selling.
As a final note, because of Nvidia’s propensity for large moves on earnings, the debit spread (which costs significantly less and offers the highest potential upside) would likely be the best option of the three choices displayed.
Wrapping Up: Goldman Sachs Nvidia Earnings Options Trade
We aren’t saying that the analysts at Goldman Sachs are new to options trading, or novice by any means. These are, by all accounts, some of the most well-equipped traders in the world. However, the points we’re making are valid — their trade idea in $430 September Nvidia options has a few potential areas of improvement. This represents the fact that even the best and most experienced traders always have something to learn.
Curious what you can learn from us? Talk to a professional options trader today for free!
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