Hartford Financial: Volatility high ahead of Q3 report

Judging by Tuesday's early option activity, at least one speculator is expecting a major move out of Hartford following the earnings release. Shortly after the open, two blocks of 50 contracts apiece crossed the tape on the stock's November 25 put and call, with both trades marked "spread." The transactions occurred squarely between the bid and ask prices, but implied volatility rose after each trade -- suggesting these options were purchased.

In other words, we're looking at the initiation of a long straddle, which is a popular pre-earnings play. By buying (to open) long calls and puts at the same strike price, the trader will be able to benefit from a significant price change in the underlying equity, no matter whether the shares move higher or lower.

Unfortunately, it's a less-than-opportune time to open a long straddle on HIG. With earnings after the close tonight, implied volatility on the stock's November-dated options are running high. The November 25 call carries implied volatility of 88.3%, while the same-strike put is pricing in implied volatility of 89.5%. By contrast, the equity's one-month historical volatility stands at just 71.6%. With implieds outpacing HIG's actual, realized volatility by such a wide margin, it's safe to say that front-month options are more expensive than usual.

This particular straddle was opened for a net debit of $3.92 per contract. In order to begin profiting from the position, the trader needs HIG to climb beyond $28.92 (the call strike plus the net debit) or fall below $21.08 (the put strike minus the net debit). In short, today's straddle speculator needs HIG to fall more than 15% or rally nearly 17%, from Monday's close at $24.81, in order to bank a profit.

Elizabeth Harrow is an analyst and financial writer in the research department at Schaeffer's Investment Research. She is featured in the video series Schaeffer's Daily Q&A on SchaeffersResearch.com.