Trading Nasdaq-100 (NDX) Options Around the CPI Report

Last week the market digested the most recent employment report as the odds of a 50bp cut at the September 18 FOMC meeting increased. The stock price drop is based on concerns that the economy is slowing too quickly and that the Fed is behind the curve. Growth is one component of the Fed’s mandate, with the other being inflation. Any concerns about another round of inflation would make cutting interest rates more difficult. Based on that line of thinking, this Wednesday’s Consumer Price Index (CPI) report may be one of the few economic releases that would impact the FOMC’s ability to act at next week’s meeting.

Technology stocks are very sensitive to the economic cycle and have often represented a sector that outperforms during a rate-cutting cycle. Since releases like the CPI may alter the outlook for FOMC action, 1-day index options are a popular method of speculating on the reaction to economic reports. In the case of CPI, focusing on the Nasdaq-100 (NDX) makes sense as well.

Based on the last twelve CPI reports, the average price change for NDX on CPI-day is +/-1.08%. A data point of interest is the gain of 0.09% last month which represents the smallest move over the observation period. We have found periodically traders will have a short memory with respect to the market reaction to an earnings announcement or economic release. If premiums are low enough, it may create an opportunity to purchase a straddle, strangle, or other trade that results in long volatility exposure.

Data Sources: Bloomberg & Author Calculations

In addition to the price reactions, we track 1-day at-the-money (ATM) straddle pricing on the close before and after major economic releases. The following graphic shares the 1-day ATM straddle price on the close before and close after the CPI announcement. The dark blue lines show the pricing before and light blue after. Additionally, the straddle pricing before (based on the mid-point of the bid-ask spread) and at settlement (based on the closing NDX price versus the straddle’s strike) shows how traders either long or short volatility using 1-day options fared around CPI announcements.

Data Sources: Bloomberg & Author Calculations

The net result for a consistent seller of 1-day ATM straddles would be a loss of 183.96 points. Also, the straddle has overpriced the move six times and underpriced the move six times over the past twelve reports. Based on history we would be inclined to take a long volatility trade into Wednesday’s report, but we would want to be long volatility at a sensible price. If short memories prevail we may have a chance to pick up a relatively cheap straddle and then watch the CPI reaction looking for a bigger than average move.