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Successful options traders share one commonality: They all follow a quant-based approach.
The strategy I am about to introduce has allowed us to reap over 780% in gains since October 2017 (click here for details). That’s right, 780% . . . and we have the track record to back it up.
You see, years ago, I never thought it made sense to trade earnings. It was a foreign concept – due to numerous limitations (commissions, liquidity, no weekly expirations), and trading earnings announcements just didn’t make sense from an efficiency standpoint.
Well, things have dramatically changed.
Add 52 weekly expiration cycles, a variety of highly liquid products and the clarity of a once unknown calculation . . . and we now have the opportunity to trade earnings news in an efficient and informed manner.
Today I want to focus on the “unknown calculation”… It’s a major advance in the way all traders approach the market, specifically during earnings season.
The unknown calculation? Expected move.
Well, I’m sure most of you are asking, what is “expected move”?
Expected move is the price movement the market expects during a given expiration cycle. It’s the key to successfully trading earnings announcements. Fortunately, now we have tools that allow us to see, in real-time, the expected move for any given underlying stock around its earnings announcement.
This one calculation gives us the supply and demand for any individual security in real-time, and that is incredible information to have if you are trading during earnings season.
During the coming week I will be sending out potential trades in IBM, Coca Cola, Netflix, Intel, and Verizon. To learn how to use this approach and to get details on the trades, please click here to reserve a spot at my upcoming briefing.
Let’s look at an older example using Netflix (NASDAQ: NFLX).
As expected, implied volatility (IV) is high as we move closer to the uncertainty of the NFLX earnings announcement. We ALWAYS want to see heightened levels of IV when seeking trading opportunities around earnings. Increased levels of IV means inflated options prices . . . basically, that we can sell options for more premium than usual.
We have several tools at our disposal to figure out what the expected move is for Netflix immediately following the company’s earnings announcement. You can see the expected move embedded in the options chain on the Tastyworks platform.
If you don’t have access to a platform with this information, you can calculate the expected move by taking the credit of at-the-money straddle, in this case $16.25 ($8.50 + $7.65), and multiply it by 0.84. The 0.84 comes from going out roughly one standard deviation from the stock’s current price of $195.86.
This gives you $13.65. Then take the $13.65 and divide it by price of the stock, in this case $195.96. This gives you a percentage move of 6.97%. A 6.97% move in NFLX is roughly +/- $13.65.
Knowing that the expected move is $13.65 gives us the opportunity to utilize a variety of strategies based on our market assumptions in NFLX (bullish, bearish or neutral).
I tend to stick with risk-defined, neutral-based strategies like iron condors, chicken iron condors and strangles. Although, every now and then I will venture out and use a directional strategy if I am bullish or bearish.
If we know the expected move in NFLX, we can create a range-bound trade around the expected range as seen in the options chain above.
We could sell a 2.5 strike wide iron condor at the 212.5/215 – 180/177.5 strikes for roughly $0.95.
Our short strikes of 212.5 – 180 give a fairly wide range of $22.50. And as long as NFLX shares trade within that range immediately following the company’s earnings announcement, we should be able to buy back the spread for a nice profit due to volatility crush.
The probability of that occurring is roughly 78% on the downside and over 80% on the upside.
The uncertainty (and associated risk) of the binary event will have passed and volatility will immediately push back to normal levels.
The decline in volatility affords us the opportunity to take advantage of some nice profits as we trade earnings. They call it “volatility crush.”
I hope this report on expected move gives you the insight needed to trade earnings and make sound judgments on each and every earnings trade you decide to take on.
If you would like to know more about the strategy and how we have reaped over 780% since we started to trade earnings, please click here. I’ll be taking all of your questions during this deep-dive event.