What Option Trades Should You Take During Earnings - Singapore Forex Trading, Singapore Forex Academy, Singapore Forex Association

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What Option Trades Should You Take During Earnings

The options strategies that perform well are long options. This goes against what most traders believe because they think volatility crushes the premium too much to make these trades profitable. However, there are a lot more earning surprises than not. When focusing on long options, we want to focus strictly on long straddles.

A long straddle involves buying a call and a put on the same strike and same maturity. This creates a non-directional play, so you profit if the stock makes a significant move up or down. The most important thing is that the move is a large one. Since you must buy two options, it raises your breakeven price so a small move will still cost you money. It is for this reason that buying a straddle under normal conditions, non-earnings is challenging to make money. 
One study we looked at noted, "On average, straddles on individual stocks earn significantly negative returns: daily holding period return is -0.19% and weekly holding period return is -2.09%. In sharp contrast, straddle returns are significantly positive around earnings announcements: average at-the-money straddle returns from one day before earnings announcement to the earnings announcement date yields a highly significant 2.3% return."
When focusing on taking a position for earnings, we want to get long our straddle at-the-money. Earnings can take stock on a positive or negative track, so we don't want to put on a bias when entering our position. Keeping the position at-the-money will allow us to profit if the move is in either direction. When deciding on the maturity always pick the shortest time to expiration. We need the most movement and most reaction out of the straddle.
The beautiful part about our earnings trades is we won't keep a lot of unnecessary risk on regarding time. We want to put our straddle on the day before the earnings are announced. This will leave us set up for the announcement and nothing else, which is what we are aiming for. If you add the straddle on too early, it could move and take it from being at-the-money to having a bullish or bearish bias.
When a company releases, their earnings is when you want to exit the position. Wait towards the end of the day to be able to get the full movement out of the stock and exit the position. It doesn't matter if the position is showing a gain or a loss you still want to exit on earnings announcement day.
Don't hold the straddle if it is a loser thinking it will move enough for you. When volatility comes out time decay will start weighing down on the position. The probability of success will drop off dramatically the longer you wait, and the position will lose more money. Cut your losses and move on to the next one.