On Wednseday morning Lehman Bros (LEH) released quarterly earnings. There was a lot of negative sentiment against LEH going into earnings and I considered getting buying some puts on Lehman but I didn’t do it soon enough and I don’t like buying options the day before the announcement due to the risk of getting caught in a volatility crush.

Shortly after the earnings announcement in the morning, the stock was down $2.08, almost a 3% move down. However, the December front-month ATM and OTM puts, which should have gone up, actually went down in price. The reason is that once the earnings came out uncertainty went down, which decreased volatility. Volatility affects options closer to expiration . This teaches 2 things when trying to time the market with options:

1. When volatility is high (like the market is now) beware of volatility crushes like these
2. You’re more likely to be a victim of volatility crushes when playing with options close to expiration

I had been the victim of a crush in the past and didn’t know what it was and didn’t understand why when the underlying stock of my calls went up why my call options went down in volume. That’s because as a beginner I often traded front-month option near earnings. Sometimes it worked as an earnings surprise was announced, surpassing all of the volatility premium I had paid for. However, on other times what the company announced was what everybody expected, or worse, and I got caught in a crush.