A Straight-Up Earnings Play

If Goldman Moves Big, You Profit

By Bryan Bottarelli
Monday, June 12, 2006 11:03 AM EST
Mon, 12 Jun 2006 16:03:00 GMT

PLAY: Buy the GS July 170 Calls (GPY GN) at or under $0.75. Also buy the GS July 125 Puts (GS SE) at or under $1.00.

Dear Bottarelli Research Member,

Last week, I outlined a strategy to play Tuesday’s earnings report from Goldman Sachs (GS – NYSE) using a combination of the GS July 170 Calls (GPY GN) and the GS July 125 Puts (GS SE).

The thesis is that if Goldman’s earnings announcement moves the stock aggressively up OR down, owning this combination of calls and puts will make you a gain of at least 20%. The bigger the move, the bigger the potential gains. As I calculated last week, a $10.00 up or down move would be enough to push both the calls or the puts up 242%. Even accounting for a loss on the other side, this would be enough to make the entire position a winner.

If today’s broker news is any indication, we could be looking at a GS down-move. You see, Lehman Brothers (LEH — NYSE) set the tone today for all the brokers when they reported second-quarter earnings that increased 47% to $1.69 a share. Their total revenues of $4.4 billion beat the analyst expectation of $4.22 billion, yet the stock is DOWN $2.10 as I write.

LEH

Why the down move? For one, we could be looking at a situation where expectations are so high, we’ll get a dramatic “sell on the news” reaction. On the flipside, if Goldman simply blows their earnings out of the water, any investor looking to jump back into this market could buy up GS shares, fueling a big-time rally.

Both the upside and the downside scenario make perfect sense, and that’s why it’s a good idea to enter both the calls and the puts. Of course, if you’re a pure speculator at heart, I can’t stop you from just taking one side of this position. If you get it right, you’ll be looking at a tremendous one-day gainer. But if you get it wrong, well, you get the idea.

To me, the smartest play is to own both the cheap calls and the cheap puts. Heck, given the recent market volatility, there’s even a chance that we play our cards right and make a gain on both sides! So here’s the play:

PLAY: Buy the GS July 170 Calls (GPY GN) at or under $0.75. Current bid/ask spread is $0.65 to $0.70. Also buy the GS July 125 Puts (GS SE) at or under $1.00. Current bid/ask spread is $0.80 to $0.90.

*TACTICAL NOTE: Since each side offers protection against the other, do not place any stop losses at this time. Also make sure to buy each contract on a one-for-one basis. In other words, if you own 4 calls, also plan to buy 4 puts. Then, root for a big-time move on GS tomorrow!

Lock and load,

Sincerely,

Bryan Bottarelli

Bryan Bottarelli
Editor, Bottarelli Research

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