Just like expiry day option strategies, earning season option strategies also have special significance. The quarterly earning picture is coming out fast. Infosys declared the quarterly result on 14.07.17. morning. This article will explain earning season option strategies and which of the strategies should we use – strangle or straddle before earnings? Let’s get into a little deeper before practically showing their uses.
Strangle or Straddle before earning season starts?
Earning season brings a lot of interest among investors. They take positions in both directions. Earning season option strategies for options traders are created from their buying interest. They buy CE (Calls) and PE (Puts). Sudden buying interest in options increases their price and IV (Implied Volatility). Thus, for options traders, the inflated options price brings trading opportunities.
What is a Straddle? – When one takes a position in both CE and PE of the same strike price, a straddle is formed. As for example, buying Nifty 9000 CE and PE of July,17 is buying Nifty July 9000 straddle. We can similarly sell straddle also.
What is Strangle? – When one takes positions at OTM (out of the money) strikes, equidistant from the price of the underlying, a strangle is made. Say, Nifty is near 9000. Selling Nifty July 10000 CE and 9800PE is selling the strangle. Similarly, one can buy strangle also.
We buy straddle when there is high volatility and profit can be realized in a very short time. Otherwise, time decay will eat up profit.
We sell strangle when there is high volatility and we want to trade volatility by selling options, knowing that soon IV will come down and we will realize the profit from both CE and PE.
Let us find some practical examples to find which is better earning season option strategy.
Example – Infosys declared its quarterly result on 14.07.17. Let us discuss different cases.
Case 1 – Straddle before earnings – Infy July Future was around Rs 980. Say we buy ATM straddle of Infy on 13th July, i.e. 980 CE @ Rs 28 + 980 PE @ Rs 30 or Rs 58 is the combined price. On 14th of July, when the result was declared, even if we could square of our position early, we could have squared of our position at a high price of Rs 50 (maximum 37 + 22.85 = 59.85) creating a loss of Rs 8. Waiting for more could have resulted in a higher loss.
Case 2 – Strangle before earning – As already explained, before the declaration of result options prices get inflated and we can sell volatility by selling the inflated CE and PE. Say we take a Strangle of Infy on 13 July. We sell 920 PE @Rs 8 and sell 1040 CE @Rs 8.5 (total cash inflow Rs 16.5). On 14th., after the result came out we square of our positions. We buy 920 PE @ Rs 2 and buy 1040 CE @ Rs. 3 (total outflow is Rs 5). Hence we net Rs (16.5-5) or Rs 11.5 per lot. Thus selling strangle is more successful.
Conclusion – As part of earning season option strategies we have discussed two strategies, straddle before earnings and strangle before earnings. Selling Strangle gives better results. To adopt this strategy, we need to keep an eye on the following factors.
- Take position before the result day.
- Chose a stock with a moderate level of volatility.
- Choose strike price wisely (take +/-1sd and when IVP/ IVR is near 100).
- Sell OTM PE and CE simultaneously (the legs should be equidistant from ATM strike).
- Square off positions after results come out, chose favorable exit point and square off positions simultaneously. Too much waiting may deflate profit.
There are other earning season option strategies which we will discuss later. For more trading strategies visit our page.
Partha, an engineer by education, is theoratically actively following the stock and commodity markets since 1990. He is an active trader since 2003. He has received formal education in future and options and quantum analysis. He is presently working on research oriented projects using Python and data analytics.