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CME Group (NASDAQ: CME) sees stock and implied volatility climb

By: Jud Pyle
Posted: 4/22/2010 7:22:00 PM
Referenced Stocks: CME

Investors are betting today that shares of CME Group (NASDAQ: CME ) the Chicago-based operator of futures exchanges, will stand to benefit from financial reform. As of 2:40 EST, the stock had rallied more than $18 or 5% to $340. As Kevin Cook pointed out earlier this week , the bullish case for this stock is that financial reform might best be affected by mandating that OTC derivatives trade on exchanges.

Today's jump higher comes one week before the company's earnings report is due. Analysts currently expect the company to report earnings of $3.58 per share, up from $3.20 in the same quarter one year ago. The bulls who are pushing the stock higher are betting that increased financial regulation that moves more trading to exchanges will increase the volume on the CME, which drive earnings.

As CME shares rallied today, we saw implied volatility pick up as well. To be fair, volume in the options is not astronomically high, but the increase in the price of the May at-the-money straddle tells an interesting story. Remember, a straddle is the combination of the put and the call with the same strike in the same expiration month. Last night, the May 320 straddle closed at a price of $21.15, or 7.3% of the stock price. Given that earnings are going to occur before this straddle expired, people who wanted to bet on how large the stocks move would be as a result of earnings would buy or sell that straddle. That price translated to an implied volatility of 28. Currently, the new at-the-money straddle is the 340 strike, thanks to the rise in the stock. The price of that straddle is $25, which translates to an implied volatility of 31.

What this all means for investors interested in CME is that as of today, the markets are now anticipating more volatility in the next 30 days than they were previously. They are seeing this move up as not a one day phenomenon, but the beginning of a period where the stock will move a bit more than it had for the last 21 trading days. For a visual of the risk/reward profile of a straddle position, open a free virtual trading account and gain access to tools essential to assessing profits and loss for this and other stock and option trades.