Nvidia Reports Earnings Feb. 21. Use These Unusually Active Options to Protect Your Downside.

Nvidia (NVDA) has been one of the market’s biggest success stories over the past year. Its shares are up 221% since this time last year. In hindsight, investors could see it coming. AI was front and center in 2023, and nobody was more invested in the technology than Nvidia CEO Jensen Huang and AI-focused customers.

The chipmaker reports Q4 2024 earnings on Feb. 21 after the markets close. Analysts expect it to earn $4.57 a share from $20.3 billion in revenue. If the analysts are correct, it will be EPS growth of 519% from 236% revenue growth. 

As Matt Damon said in the Dunkin’ Donuts Super Bowl ad, “How ‘bout them donuts!”

Anything less than a homerun could mean a little near-term course correction for NVDA stock. If you own some, it might be prudent to do something to protect your downside. That’s especially true if you’ve held for over a year and have significant unrealized gains.

In Wednesday’s unusual options activity, Nvidia had 29 puts and calls with Vol/OI ratios of 1.25 or higher. Several of them make sensible bets to protect your downside while continuing to hold one of the best-run companies in America.

A Protective Put

If you already own Nvidia stock, buying protective puts is one of the easiest ways to protect your downside. There are two reasons why you might use the protective put strategy. 

The first would be if you had bought Nvidia stock a year ago and wanted to reduce your downside risk moving forward. That's referred to as a married put. The second would be if you own the stock but the near-term looks dicey -- bad earnings or revenue miss -- but you’re confident in Nvidia’s future.

So, let’s say you own 100 shares of NVDA that you bought a year ago for $250. You would buy one put contract with a strike price out of the money. How far out of the money depends on how much you’re willing to spend and the duration of the put.  

Let’s say you want to protect your downside for the next week heading into earnings and then for another five weeks after earnings; that would take you out to the end of March. Three of the nine unusually active options expire in March, but none at the end of the month. 

However, the two expiring on March 15 (3 weeks after earnings) have strike prices of $705 and $690 out of the money based on yesterday’s closing price of $739.00.

The higher-priced $705 strike had an ask price of $34.45, while the $690 ask was $28.35. At $690, you’re looking at a 6.6% correction from yesterday’s close. At $705, it’s a 4.6% correction. 

Let’s assume Nvidia’s EPS is 20% off the analysts’ $4.57 estimate. That might be enough to knock NVDA for a 15% correction. I’m just spitballin’ here. And let’s also assume that its shares rise 10% leading up to earnings next week. That would be about $813. A 15% correction from there takes it to $691.00, which would be out of the money by $1 on the $690 strike and in the money by $14 with the $705.

To calculate your minimum profit for both strike prices, subtract your purchase price ($250) from the strike price and the premium paid for the put. 

$690 - $250 = $440 - $28.35 = $411.65

$705 - $250 = $455 - $34.45 = $420.55

Something More Elaborate

Barron’s contributor Al Root reported on Feb. 15 on Susquehanna options strategist Christopher Jacobson’s stock options collar to protect Nvidia profits. 

The collar involves owning the stock, selling out-of-the-money call options, and buying out-of-the-money put options. The idea is to use the income from selling the calls to pay for the puts. 

Jacobson recommended a March $865 call and a $630 put expiring in March. You want one put and call for every 100 shares owned. As Root points out, if Nvidia’s share price remains between $630 and $865 after earnings through the options’ expiries, they’ll expire worthless, and you’ll have paid nothing for the protection. 

Using yesterday’s unusual options activity, there isn’t a March $865 call, but there is a March 22 $820 call, and we can use the March 15 $690 put that we used in the previous example. 

The premium income received for selling the $820 call is $29.60, while the premium income paid to buy the $690 put is $28.00. Based on yesterday’s closing price of $739, you’ve capped your upside on the stock at 11% through March 22, while you’ve limited the downside to 7% through March 15. 

Anything between $690 and $820, and the options expire unused with a small profit in your pocket. 

But more importantly, you’ve bought yourself some insurance against the unexpected chance that Nvidia lays a giant egg. 

It’s unlikely, but stranger things have happened.