NFLX Oct 2015 earnings
SeanM, in General Board
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Trade Explanation: For the Volatility Advisory in NFLX, we are selling the Apr 427.5 puts and 520 calls and buy the Apr 425 puts and 522.5 calls for a net credit of $0.91 to open.
Underlying Price: $474.22
Price Action: We are selling this $2.5-wide Iron Condor in the online streaming company for a credit of $0.91. For an Iron Condor trade, we sell an out-of-the-money Call Vertical (520/522.5) and Put Vertical (427.5/425) simultaneously. The company has earnings after the close and the option markets are pricing in a move of 8-9%. We expect the shares to move after the report but are giving ourselves a nice range of $92.5 between the short strikes. We need the shares to continue to trade between our break-even levels of $426.59 on the downside and $520.91 on the upside.
The following was described as a rationale for the trade:
Volatility: Volatility is elevated in the Apr options which makes this trade attractive. The IV percentile rank is elevated at 73% also which also gives us a good opportunity to sell this Iron Condor. We expect volatility to fall sharply after earnings which will contract the value of this short-term neutral position.
Probability: There is an 80% probability that NFLX shares will be below the $520 level and a 80% probability that it will be above the $427.5 level at Apr expiration. This trade offers a good Risk/Reward scenario with the amount of credit collected vs. the probability numbers for this position.
Trade Duration: We have 2 days to Apr expiration in this position. This is a short-term position and time decay will increase quickly due to the time frame and the earnings report.
Logic: We want to take advantage of the increased volatility in our option by initiating this earnings play. Our short verticals are outside of the anticipated one standard deviation move that the options are pricing in so our probabilities are positive. The shares will hopefully remain between our short verticals and we will be aggressive in closing the trade.
It is true that Volatility is elevated in the Apr options, but this is completely normal, considering the upcoming earnings and does NOT make the trade attractive.
It is also true that volatility will fall sharply after earnings, but it is not relevant if the stock will be trading above the long strikes. In this case, the trade will still lose 100%.
2 days to Apr expiration makes the trade much more risky because there will be no time to adjust or take any corrective action.
"80% probability that NFLX shares will be below the $520 level" means nothing when earnings are involved. The price action will be determined by earnings only, not by options probabilities.
"The shares will hopefully remain between our short verticals" - hope is not a strategy.
The short strikes are less than 10% from the stock price, which is not far enough, considering NFLX earnings history.
Now, I want you to take a look at the last 10 cycles of NFLX post-earnings moves:
(This screenshot is taken from OptionSlam.com).
Now, I'm asking you this:
WHO IN HIS RIGHT MIND WOULD TRADE AN IRON CONDOR WITH SHORT STRIKES LESS THAN 10% FROM THE STOCK, ON A STOCK THAT HAS TENDENCY TO MOVE 15-25% AFTER EARNINGS ON A REGULAR BASIS???
The stock is trading above $530 after hours. If it stays this way tomorrow, this trade will be a 100% loser, and there is NOTHING you can do about it. But frankly, the final result doesn't really matter. To me, this trade is simply insane and shows complete lack of basic options understanding.
That said, I'm not completely dismissing trading Iron Condors through earnings. For many stocks, options consistently overestimate the expected move, and for those stocks, this strategy might have an edge (assuming proper position sizing). But NFLX is one of the worst stocks to use for this strategy, considering its earnings history.
Watch the video:
If you want to learn how to trade earnings the right way (we just booked 30% gain in NFLX pre-earnings trade):
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By Ophir Gottlieb
There is a bullish momentum pattern in Netflix Inc (NASDAQ:NFLX) stock 7 calendar days before earnings, and we can capture that phenomenon explicitly by looking at returns in the option market.
The logic behind the back-test is easy to understand -- in a bull market there can be a stock rise ahead of earnings on optimism, or upward momentum, that sets in the one-week before an earnings date.
We can start with a stock return chart over the last year comparing Netflix (in red) to the rest of FAANG.
Netflix has more than doubled the rest of the high momentum crew.
The Bullish Option Trade Before Earnings in Netflix Inc
We will examine the outcome of getting long a weekly call option in Netflix Inc 7-days before earnings (using calendar days) and selling the call before the earnings announcement.
Here's the set-up in great clarity; again, note that the trade closes before earnings, so this trade does not make a bet on the earnings result.
We can add another layer of risk management to the back-test by instituting and 50% stop loss and a 50% limit gain. Note that this is a little different from our normal 40% stop and limit. Here is that setting:
In English, at the close of each trading day we check to see if the long option is either up or down 40% relative to the open price. If it was, the trade was closed.
We found this back-test by looking at pre=-earnings strategies in the Nasdaq 100. We focused on 3-year results, and sorted by wins.
Don't worry, we will talk about those six companies with better scan results soon, but Netflix has a nice narrative around it that stands out.
Here are the results over the last three-years in Netflix Inc:
NFLX: Long 40 Delta Call % Wins: 75% Wins: 9 Losses: 3 % Return: 173%
Tap Here to See the Back-test
We see a 173% return, testing this over the last 12 earnings dates in Netflix Inc. That's a total of just 84 days (7-days for each earnings date, over 12 earnings dates). This has been the results of following the trend of bullish sentiment into earnings while avoiding the actual earnings result.
We can also see that this strategy hasn't been a winner all the time, rather it has won 9 times and lost 3 times, for a 75% win-rate and again, that 173% return in less than six-full months of trading.
While this strategy had an overall return of 173%, the trade details keep us in bounds with expectations:
➡ The average percent return per trade was 26%.
➡ The average percent return per winning trade was 47.7%.
➡ The average percent return per losing trade was -39%.
Back-testing More Time Periods in Netflix Inc
Now we can look at just the last year as well:
NFLX: Long 40 Delta Call % Wins: 75% Wins: 3 Losses: 1 % Return: 105%
Tap Here to See the Back-test
We're now looking at 105% returns, on 3 winning trades and 1 losing trades. It's worth noting again that we are only talking about one-week of trading for each earnings release, so this is 105% in just 4-weeks of total trading.
➡ The average percent return over the last year per trade was 26.1%. This is remarkably similar to the three-year result of a 26% average return.
➡ The average percent return per winning trade was 40%.
➡ The average percent return for the one losing trade was -15.7%.
Going Yet Further
While we're at it, we can take a look what really sets this back-test apart from some others that actually have slightly higher win rates. We are also focused on the 9-month back-test:
NFLX: Long 40 Delta Call % Wins: 100% Wins: 3 Losses: 0 % Return: 131%
Tap Here to See the Back-test
We can see that Netflix has a bit of streak to it right now with three consecutive pre-earnings one-week long call back-tests showing wins, with an average return of 40%.
Bull markets tend to create optimism, whether it's deserved or not. With the recent history of outperformance of the other FAANG stocks and nice winning streak, this gets twice the attention and is worth noting well ahead of the next event. To see how to test this for any stock we welcome you to watch this quick demonstration video:
Tap Here to See the Tools at Work
You should read the Characteristics and Risks of Standardized Options.
Past performance is not an indication of future results.
Trading futures and options involves the risk of loss. Please consider carefully whether futures or options are appropriate to your financial situation. Only risk capital should be used when trading futures or options. Investors could lose more than their initial investment.
Past results are not necessarily indicative of future results. The risk of loss in trading can be substantial, carefully consider the inherent risks of such an investment in light of your financial condition.
The problem is you are not the only one knowing that earnings are coming. Everyone knows that some stocks move a lot after earnings, and everyone bids those options. Following the laws of supply and demand, those options become very expensive before earnings. The IV (Implied Volatility) jumps to the roof. The next day the IV crashes to the normal levels and the options trade much cheaper.
Over time the options tend to overprice the potential move. Those options experience huge volatility drop the day after the earnings are announced. In many cases, this drop erases most of the gains, even if the stock had a substantial move. In order to profit from the trade when you hold through earnings, you need the stock not only to move, but to move more than the options "predicted". If they don't, the IV collapse will cause significant losses.
However, there are always exceptions. Stocks like NFLX, AMZN, GOOG tend on average to move more than the options imply before earnings. It doesn't happen every cycle. Few cycles ago NFLX options implied 13% move while the stock moved "only" 8%. A straddle held through earnings would lose 32%. A strangle would lose even more. But on average, NFLX options move more than expected most of the time, unlike most other stocks.
NFLX reported earnings on Monday October 17. The options prices as indicated by a weekly straddle "predicted" ~$10 (or 10%) move. The $100 calls were trading at $5 and the puts are trading at $5. This tells us that the market makers are expecting a 10% range in the stock post earnings. In reality, the stock moved $19. Whoever bought the straddle could book a solid 90% gain.
Implied Volatility collapsed from 130% to 36%. Many options "gurus" advocate selling options on high flying stocks like NFLX or AMZN, based "high IV percentile" and predicted volatility collapse. However, looking at history of NFLX post-earnings moves, this doesn't seem like a smart move.
As you can see from the table (courtesy of optionslam.com), NFLX moved more than expected in 7 out of 10 last cycles. For this particular stock, options sellers definitely don't have an edge, despite volatility collapse. If the stock moves more than "expected", volatility collapse is not enough to make options sellers profitable.
Generally speaking, I'm not against selling options before earnings - on the contrary. For many stocks, options consistently overestimate the expected move, and for those stocks, this strategy might have an edge (assuming proper position sizing). But NFLX is one of the worst stocks to use for this strategy, considering its earnings history.
Why We Sell Our Straddles Before Earnings Why We Sell Our Calendars Before Earnings How NOT To Trade NFLX Earnings The Less Risky Way To Trade TSLA
If you want to learn how to trade earnings the right way (we just booked 26% gain in NFLX pre-earnings trade):
Start Your Free Trial
Here is the answer:
Financial website How Much, took a look at some popular stocks in 2007 to find out how much a $1,000 investment in each would be worth now. It estimates a $1,000 investment in Netflix in 2007 would be worth $51,966 as of October 31 of this year, or more than 50 times as much.
This is a fun exercise, and you might ask yourself: if I had $100,000 10 years ago and put them into NFLX stock, I would have over five million dollars today.
However, this is hindsight. NFLX was pretty much a startup 10 years ago. Would you be comfortable to put a significant amount of money into one startup company? And hold it through all drawdowns (NFLX had plenty, some of them as high as 30-40%)? For each Netflix, there are hundreds of startups that went out of business. Is it really risk you are willing to take?
Here is an excellent argument from Ryan Vlastelica, MarketWatch reporter:
The investing insanity of trying to find the next Amazon has more to say about the same subject:
Excellent advice. Please remember it next time you feel sorry for not investing in Netflix, Amazon or another hot name.
By Ophir Gottlieb
Here it is -- a portfolio of FAANG stocks using pre-earnings trading. A 3:30 video that is staggering and includes some robustness testing.
Reminder that you can sign up for Trade Machine as a Steady Options member here:
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