Using Calendars To Trade Earnings In A Low Volatility Environment

[mks212 0]

One trade that is on my mind with stocks that have 5 weekly options available is the following:

 

Open a calendar spread that goes long the option that expires after earnings and short the option that expires the week before. This way your long option will benefit from rising IV from the upcoming announcement. The trade was opened two weeks before the long option expired and was closed just prior to earnings.

 

I think this trade was mentioned in a few other posts, possibly IBM, I wanted to further investigate.

 

The results of the backtest are attached.   I used ATM options and opened another calendar if the stock moved.  I know results can be improved, or at the very least, risk reduced by using double calendars and the like.  I did it this way since it is simpler to understand and faster to backtest.

 

As illustrated with the failure of GOOG on this chart, large moves are bad for this strategy. However, even in that case, the total loss was 26% with the gains on the winners much higher.

 

Another point to note, theta was negative on many of these trades, unfortunately.

 

The remaining stocks that have 5 options available in this earnings cycle are:

 

F - 1/29/2013 

FB - 1/30/2013

BIDU - 2/4/2013

S - 2/7/2013

CLF - 2/13/2013

 

Mike

Edited January 28, 2013 by mks212

[Kim 7,512]

Yes, we did a similar trade with IBM. Cheaper stocks are less suitable for this strategy because the spreads will be too commissions consuming. And we need to look for lees volatile stocks like IBM - GOOG is probably not the best candidate, but we did well by shorting options expiring right after earnings.

[mks212 0]

I agree.  I wouldn't do the cheaper stocks.  However, there are very few stocks that have options set up 5 weeks in advance, so for purposes of testing, I included them.

 

Do you know of a good screen for this?  I know we have optionistics.com and optionslam.com that help with identifying those stocks that are best suited for straddles.

[tjlocke99 18]

Yes, we did a similar trade with IBM. Cheaper stocks are less suitable for this strategy because the spreads will be too commissions consuming. And we need to look for lees volatile stocks like IBM - GOOG is probably not the best candidate, but we did well by shorting options expiring right after earnings.

 

Kim,

 

The strategy I had been using was similar to Mike in shorting options that expire right BEFORE earnings.  Did you really short options expiring right after?

 

Thanks.

[Marco 221]

Kim,

 

The strategy I had been using was similar to Mike in shorting options that expire right BEFORE earnings.  Did you really short options expiring right after?

 

Thanks.

we did IBM with options expiring before earnings and GOOG with the short AND long leg AFTER earnings.

Both made money, GOOG despite a 4-5% move IBM was between the strikes all the time.

 

Looks like the GOOG style trade is more resilient to moves but depends on the 2w/monthly option to gain more (or lose less) than the weekly option. So we back test for that and pick names that were previously bad candidates for our long straddle strategies as they lost more in decays than IV rose.

 

The IBM style trade is more expensive (in terms of premium) and as the market prices in that there are earnings in the long leg and no earnings in the short leg you depend on the stock not to move - so this is more like a classical calendar maybe with some support from rising IV due to earnings on the long leg.

[tjlocke99 18]

we did IBM with options expiring before earnings and GOOG with the short AND long leg AFTER earnings.

Both made money, GOOG despite a 4-5% move IBM was between the strikes all the time.

 

Looks like the GOOG style trade is more resilient to moves but depends on the 2w/monthly option to gain more (or lose less) than the weekly option. So we back test for that and pick names that were previously bad candidates for our long straddle strategies as they lost more in decays than IV rose.

 

The IBM style trade is more expensive (in terms of premium) and as the market prices in that there are earnings in the long leg and no earnings in the short leg you depend on the stock not to move - so this is more like a classical calendar maybe with some support from rising IV due to earnings on the long leg.

 

Thanks Marco!  You are awesome!

 

What were the "rules" or trading criteria you were looking at on the GOOG double calendar trade?  I hunted around the site, but I didn't see much information on the details on how to filter to try and find these trades.

[Marco 221]

Thanks Marco!  You are awesome!

 

What were the "rules" or trading criteria you were looking at on the GOOG double calendar trade?  I hunted around the site, but I didn't see much information on the details on how to filter to try and find these trades.

Not sure whether we have a thread that discusses the strategy in much more detail than whats in the GOOG discussion. As I said before the calendar where the short leg is before the earnings is much more like a traditional calendar e.g. you hope for the stock not to move too much. And maybe you get a bit of tail wind from the fact that the long leg is past earnings and doesn't decay as much as it 'should' or even goes up in value.

The calendar where the short leg is past the earnings is much more a vega play so more comparable to the earnings plays we do here. As its long vega you still hope for the IM to go up - as that should increase the value of the calendar, however if the weekly goes up more than the monthly that doesn't work. 

So I would almost say the post earnings calendar is like our earnings play except we don't hope for a big move (while we can tolerate more of a move than with the pre earnings calendar) and theta is on our side rather than working against us. If a stock is not moving at all that should help the calendar even if the IM play isn't quite working as we hoped. (whereas with a straddle its the opposite, a big move may save you even when the IM goes down) So in a way I think its a good alternative especially for low IV times like now but even in more volatile times I think its a good diversification to the long gamma/short theta plays.

Edited January 25, 2013 by Marco

[mks212 0]

I entered the BIDU calendar today.  They announce on 2/4 after the close.  Please note, I had the incorrect date in my original post and have now corrected it.

 

Trade is entered as follows:

 

 

Buy To Open February 8 110 Call 

Sell To Open February 1 110 Call

 

Price: $2.42 Debit

 

Earnings Date: 2/4 After Close

Stock Price $110,.38

 

 

I will close this trade on Fri.  If the stock moves from the strike I will open a double calendar in the direction of the move.

 

Let's see how it goes!

 

Mike

[Kim 7,512]

This calendar was worth 1.10 last Tuesday. Would be more than double by now!!! A note for the next cycle.

 

P.S. I just realized that the short options expire before earnings - this is similar to what we did with IBM, not GOOG, AMZN and MA. Those calendars are very sensitive to gamma, and BIDU can be volatile, so I would consider it more risky trade.

[mks212 0]

Thanks Kim.

 

As this is a new trade for me, I did a whopping one contract on each side, so kept the risk as low as possible while still being in the trade.

 

The trade I have been discussing in this post has been short options before earnings, long options right after earnings.  The thought is that the long will experience increasing IV due to the impending earnings call whereas the short will not see nearly the same increase.

 

BIDU is definitely not the ideal candidate for this due to volatility, however, it is tough to do on stocks that don't have 5 weekly calendars available.  With just regular weeklies, we could only open on Thurs and then close the next day.  And as it stands now, there aren't too many stocks with 5 weekly options

 

CLF is on the radar for this trade as well as it announces on 2/13.  My plan is to open it on Friday, 2/1. Short Feb 8 and long Feb 15.  However, maybe it is better to open now due to the BIDU calendar doubling in one week!  I will have a look at it now.

 

Mike

[Kim 7,512]

Well, we did it on IBM with monthlies - IBM reported few days after the monthlies expired. Next candidate for a similar trade is CRM - they also report few days after Feb. options expire.

 

Also, you can still do it with weeklies that expire next week if the earnings are after that - for example, you could open AMZN on Jan. 17 with weeklies expiring on Jan. 25.

[mks212 0]

Also, you can still do it with weeklies that expire next week if the earnings are after that - for example, you could open AMZN on Jan. 17 with weeklies expiring on Jan. 25.

 

So on Jan 17 you would short the Jan 25 and use the Feb Monthly for the long side?

 

Thanks,

Mike

[Kim 7,512]

So on Jan 17 you would short the Jan 25 and use the Feb Monthly for the long side?

 

Thanks,

Mike

Yep.. Jan. 25 is before earnings, Feb after. But for a stock like AMZN it would be way too risky. I just checked - if you did the 270 calendar on Jan.17, you would be up around 15% on Jan. 24 when the stock was still near the strike, but down more than 10% on Jan.25 when the stock rallied to 284. 

[Marco 221]

I did back test the dbl calendar with the short leg after earnings and it didn't look very appealing. Not sure about the short leg before earnings either as looking at the weekly it often made money on the move (gamma) good luck though and let us know how it goes.

 

 

(maybe Kim can move these posts to a BIDU discussion)

[mks212 0]

Thanks Marco.  Part of the challenge with this trade is that backtesting isn't really "available."  The volatility environment is so low now I don't know how realistic the backtesting is. BIDU was a good candidate for straddles/strangles in 2012 with some nice gamma gains.  Those gamma gains would be a real kick in the pants if they happen on this trade (and most certainly illustrated on the spreadsheet you posted).  This is why I opened only a single calendar and will open a double or triple should the stock start moving.

 

I do feel like I am in no-man's-land a bit, but I have been gun shy to do the straddles since it has been a rough couple of months for them.

 

I will of course defer to Kim, but would like to keep this discussion here.  I am going to start talking about CLF shortly and would like to keep all talk of this particular trade in the same spot so we have it to come back to next time we are in a low IV environment.

 

Mike

[Kim 7,512]

I think we will leave the discussion here since it is more general.

 

BIDU was a "mixed" candidate even in a more "normal" environment of 2012. It delivered decent gains, but most of the time those were gamma gains. Now remember that when you do the calendar that you did, with options expiring before earnings, the negative gamma is VERY high and with any sudden move, the loss can be substantial. This is why I prefer doing those trades on stock like IBM, less on BIDU.

 

Looks like the straddles are doing better lately. One big advantage of the current environment is that the straddles are so cheap, in some cases they hardly trade on any premium to non-earnings months, so the risk is relatively low, especially if we go with monthlies. And having the mix of straddles and calendars really gives us a nice diversification.  

[mks212 0]

Thanks for the education Kim.

 

No doubt, BIDU came up on my screen for when looking for the most volatile stocks of 2012.  Do you have any intention of adding it as a straddle candidate for next week?

[mks212 0]

I closed the calendar this morning for a gain of 23%. As prior people on this thread have said, BIDU is just not the right candidate for calendars, and between its value as well as the AMZN double fluctuating wildly today, I figured it is best to take the profit.

I imagine I will have more thoughts on this, but it's been a long day trading wise and work wise.

Mike

[mks212 0]

I finally got my head around my issues with this trade and calendars in general. The main feature that attracts me to options trading, is that big moves in the underlying price don't really matter, and in many cases, help.

When buying a stock, there is always that little voice right after you get filled that hopes for the price to go up and always says "don't go down, don't go down."

With a calendar, it's even worse. Not only don't go down, don't move at all!

Also, what made me get out of this trade early, even though I acknowledge that we are in a very low IV environment, which favors a calendar as the underlying prices are standing still, was Kim's example of AMZN above. It was a great trade until the very last day. It moved so sharply that the gains just disappeared. There was not much of a chance to adjust.

That's a reality of calendars that needs to be acknowledged. They make money slowly, and can lose it very quickly.

I'll keep all of this in mind on future calendar spreads. They are definitely a powerful tool.

I wanted to do CLF, but the stock price is low, so the trade is too commissions consuming.

[Marco 221]

I finally got my head around my issues with this trade and calendars in general. The main feature that attracts me to options trading, is that big moves in the underlying price don't really matter, and in many cases, help.

When buying a stock, there is always that little voice right after you get filled that hopes for the price to go up and always says "don't go down, don't go down."

With a calendar, it's even worse. Not only don't go down, don't move at all!

 

 

well to phrase it more positive: unlike with a stock investment you don't care whether it moves up or down too much as long as the move is not too much.

 

Also, what made me get out of this trade early, even though I acknowledge that we are in a very low IV environment, which favors a calendar as the underlying prices are standing still, was Kim's example of AMZN above. It was a great trade until the very last day. It moved so sharply that the gains just disappeared. There was not much of a chance to adjust.

That's a reality of calendars that needs to be acknowledged. They make money slowly, and can lose it very quickly.

 

a place I use to trade at had a quite graphic expression for that (collecting daily theta and lose all on one big move from being short gamma)

'Being short gamma you eat like a chicken an sh@t like an elephant'

 

However as we established thats only true for traditional calendars - the ones where we have both legs after earnings will earn less or no theta as the short leg might even increase in value. - We play the difference in IV/IM between weekly and monthly. Thats why they are also more robust against moves (so the elephant part of the statement is also less true)

 

I'll keep all of this in mind on future calendar spreads. They are definitely a powerful tool.

I wanted to do CLF, but the stock price is low, so the trade is too commissions consuming.

[Kim 7,512]

The AMZN example refereed to the traditional calendars, and since it was held till expiration day, the negative gamma was huge and the move killed the trade. With the earnings calendars (like the ones we did with GOOG, MA and AMZN), the move is less critical - the IV matters much more.

 

Calendars on indexes are indeed sensitive to a move, but indexes also tend to move slower, so you usually have time to adjust. 

[mks212 0]

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Edited February 2, 2013 by mks212

[mks212 0]

a place I use to trade at had a quite graphic expression for that (collecting daily theta and lose all on one big move from being short gamma)

'Being short gamma you eat like a chicken an sh@t like an elephant'

Nice one Marco. What it lacks in eloquence it more than makes up for in emphasis.

Mike

[mks212 0]

I traded another calendar this week, this time on APA. I used the weekly that expires tomorrow for the short leg and the monthly that expires next week for the long leg. The earnings call is next week. I wouldn't say that APA is an ideal candidate as the stock can certainly move, however, the pickings were slim. I needed a stock that has weekly options and an earnings announcement next week. Furthermore, the stock's options do not really display much of an IV spike prior to earnings which was a big thing I was trying to exploit with this trade.

I opened the trade Mon AM and closed today AM for a profit of 11%. I would have held until the end of the day, however, I was not near a computer and have not yet become comfortable with trading on my phone. I did not want to hold until tomorrow since there is no time to adjust if the stock does make a sharp move.