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Options trading can bring in enormous gains if done properly. This ongoing earnings season is very exciting and can be profitable for options traders. However, it does come with a lot of volatility at times. This is because earnings information released by a company can cause the price of its stock to surge or plunge. Therefore, an investor’s understanding of the market and choosing the right options trading strategies at the right time is essential to bring huge gains during earnings season.
But a lot of investors have the wrong approach when it comes to options trading. This article is directed toward helping such investors select proper options trading strategies so that they can profit well this earnings season.
Top 4 Best Options Trading Strategies To Use During Earnings Season
What does the earnings season show?
When trading options during earnings season, investors need to know how to use options to benefit from the earnings announcement. This period gives investors information about the past, present, and projected performance of a business and aids in the formation of opinions about their investments. As a result, when the earnings for the following quarter are announced, investors can truly tell whether their investments have lived up to the expectations they had set three months prior.
However, it is these assumptions that lead to the volatility during this season. The assumptions are taken into consideration while calculating the stock price. The company’s announcement whether they have been able to beat the estimates or not forms the base of the uncertainties and investors have to be really quick to process this information.
This expectation drive is termed “implied volatility” in the options market and is usually driven by the degree of expected fluctuation in stock price. So, the higher the expected movement higher will be the expected volatility. Again, when the volatility increases the premium on the option also increases and the options trader then uses this opportunity to sell relatively expensive options and then profit from their decline.
Further, after the earnings are released the uncertainties fade, and volatility lowers down. This decline is termed “volatility crush” and this leads to a reduction in the price of the options.
important Options Trading strategies to follow
1. Short Straddle
In the Short Straddle options trading strategy, an investor needs to sell a call option and a put option of a particular underlying stock having the same strike price and expiration date. Such a strategy needs to be adopted when the investor feels the stock price will not move significantly up to the period of expiry of the options contract.
Basically, by following this strategy, investors profit from the lack of movement in the stock price. Also, there is less guesswork in this approach as directional bets are placed and one only hopes for a big move in stock price either higher or lower. It is a safer approach to trading.
2. Short Strangle
A Short Strangle is another interesting options trading strategy. In this, the investor sells a put and a call relating to the same underlying stock and with the same expiration date when both these options are slightly OTM. However, here the profits for the investors are limited but the risk is unlimited. Investors accept the risk only if they feel the underlying stock will incur very little volatility in the short term.
These Short Strangles are like credit spreads because one has to take a net credit while making their trades. Profits can be maximized when at the expiration date the underlying stock price ranges between the strike prices at which the options are being sold. Moreover, when the options expire, they become worthless and profit equates with the amount of initial credit.
Additionally, while selling a Short Strangle, investors sell an OTM put and an OTM call that is equally spaced from the current market price, neutral about the stock’s potential movement, and with the least amount of directional guesswork possible on the earnings pop or decline. Further, being non-directional during the earnings season is a much better approach as one can always adjust their positions later.
3. Iron Condor
In an Iron Condor Strategy four steps are involved namely selling a put, buying a put, selling a call, and buying a call. The investors usually sell the put and purchase another having a lower strike price and at the same time sell a call and purchase another one having a higher strike price.
So, one can use this strategy to capitalize on the expected collapse of implied volatility after the earnings get revealed. Also, this results in credit instead of a debit therefore, more money is paid upfront and a safety range or virtual safety net is created. Moreover, one wins if the stock price is within that range by expiration. Also, using this strategy one can attempt to take advantage of the elevated options premium during earnings.
4. Spread Options Strategies
Spreads are flexible options trading strategies that enable traders to profit from the spike in the underlying stock price volatility. To opt for this strategy, one must simultaneously buy and sell options. Also, the options must be of the same class, have the same maturity date, but bear different strike prices.
Further, the best aspect of this technique is that it guarantees maximum gains while limiting maximum losses. Call credit spreads and put credit spreads are the simplest to create among the several spread strategy types.
The earnings season has a lot to say, therefore the options trader needs to keep their eyes open in light of the changing market conditions. To profit from the market, one should comprehend the fundamental idea of how the market acts during earnings season and respond as circumstances require.
For instance, if the stock price stays within strike prices, one needs to close their position immediately to record profits. Again, if the stock price declines, one must manage their position by rolling an option to extend their window of opportunity for profit. To sum up, effective options trading strategies are triggered by one’s market understanding.
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