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Posts Tagged ‘Diagonal Condor Earnings Strategy’

Diagonal Condor Earnings Strategy Update #5 – Mastercard (MA)

Tuesday, April 24th, 2018

When using the Diagonal Condor Earnings Strategy, one of the things we like to find is a stock about to announce earnings where the options have priced in a post-announcement price fluctuation which is greater than the historical average of the post-announcement changes for that company.

Our goal is to create two diagonal spreads at a credit (or slight debit) which allow for a profit to be made if the post-announcement fluctuation is within the historical average amount.  In the past few weeks, we have placed spreads that met these criteria on several companies, including Carmax (KMX), TD Ameritrade (AMTD), and Red Hat (RHT), and these plays were all profitable, with returns from 30% to over 70% including commissions in a single week.

This week, we are looking forward to taking a position in Mastercard (MA) which announces earnings before the market opens on May 2.  The 4May18 options have priced a 3.8% post-announcement price change while the average change for the last eight quarters has been only 1.1% (about $2 when the stock is trading about $175).

Here are the trades we made this week using the Diagonal Condor Earnings Strategy that is outlined here in case you missed it earlier. Here are the spreads we will place just prior to May 2 (prices as they exist now):

Buy To Open MA 1Jun18 170 puts (MA180601P170)
Sell To Open MA 4May18 175 puts (MA180504P175) for a credit of $.25 (buying a diagonal)

Buy To Open MA 1Jun18 182.5 calls (MA180601C182.5)
Sell To Open MA 4May18 177.5 calls (MA180504C177.5) for a credit of $.17 (buying a diagonal)

After paying a commission of $2.50 per spread at the commission rate charged to Terry’s Tips subscribers at thinkorswim, each pair of spreads will incur a maintenance requirement of $500 less the $42 plus the $5 commission, making it an investment of $463 (the maximum theoretical loss).  One of the spreads is guaranteed to make a gain no matter what the stock might do after the announcement.

Here is the risk profile graph for the above spreads, assuming that implied volatility (IV) of the 1Jun18 option series will fall by 3, from 28 to 25 after the announcement.  This compares to the current IV of the 4May18 series which carries an IV of 35.

MA Risk Profile Graph April 2018

MA Risk Profile Graph April 2018

The break-even range for these positions goes from about $170 to $183.  If the price ends up at any price within this range, there should be a profit.  Historically, the stock has fluctuated by an average of about $2, which would place it between $173 and $177.

If the historical fluctuation continues, these positions could deliver 60% or more on investment for a single week of waiting it out.

If the stock fluctuates more than we expect (and finishes outside of the break-even range), we would roll over the expiring options before they expire on May 4 and sell new weekly out-of-the-money options for the 11May18 series, and continue doing so until we took in sufficient new premium to make the entire experience a profitable one.  We would have five weekly opportunities to accomplish this.  Of course, nothing is guaranteed, but weekly fluctuations tend to be much more moderate once the earnings week has passed, and that is the kind of market where this kind of diagonal or calendar spreads do their best.

If the stock fluctuates more than $2.50 from the $166.36 price when we placed the spreads, you might want to adjust the strike prices by $2.50 in the same direction.

Final note: MA has been a good underlying for Terry’s Tips.  In 2017, one of our actual portfolios traded MA options, and the portfolio gained 152% for the year. You can get a full (and free) report on how this worked out by requesting it below.

Facebook (FB) Play – Diagonal Condor Earnings Strategy

Wednesday, April 18th, 2018

Here is the link to the Seeking Alpha article on FB: https://seekingalpha.com/article/4164510-expect-facebook-earnings-announcement

This article explains our thinking behind the trades we suggested for the upcoming Facebook’s earnings announcement taking place next week.  See full recommendation below. 

Facebook (FB) announces earnings after the close on April 24, 2018.  I have submitted an article to Seeking Alpha outlining the reasons I believe that the stock will trade higher (or at least, not lower) after the announcement compared to its current level. If they accept my article for publication, I will send you the link.  If they don’t accept it in a timely basis, I will send it along to you.

Here are the trades we made this week in accordance with this positive post-announcement outlook using the Diagonal Condor Earnings Strategy that is outlined here in case you missed it earlier.  Note that one of the diagonals is being placed at a slight debit, a small deviation from the strategy.  This should not be a problem because the 1Jun18 options are considerably higher than this debit, and will surely hold up enough so that one of the two spreads is guaranteed to be a serious gainer.

BTO 1 FB 1Jun18 160 put (FB180601P160)
STO 1 FB 27Apr18 165 put (FB180427P165) for a credit of $.25 (buying a diagonal)

BTO 1 FB 1Jun18 177.5 call (FB180601C177.5)
STO 1 FB 27Apr18 172.5 call (FB180427C172.5) for a debit of $.28 (buying a diagonal)

IV of the 27Apr18 options is 47 compared to 31 for the 1Jun18 series (this huge difference is what makes this play so potentially profitable).

Here is the risk profile graph for these spreads assuming that IV for the 1Jun18 series will fall from 31 to 26 after the announcement.  I think there is a fair chance that it will not fall that far, and the results could be even better than what is indicated below:

Facebook Risk Profile Graph April 2018

Facebook Risk Profile Graph April 2018

These spreads require a maintenance requirement of just over $500 per pair of spreads.  One of them is guaranteed to make a gain no matter what the stock price does.

For the past 8 quarters, FB’s post-announcement fluctuation has averaged 3%.  This graph shows that a profit should result if the stock fluctuates less than $5 (about 3%) in either direction.  The potential gains are over 60% for a one-week play if the stock fluctuates less than $5 (and ends up at any price between $165 and $173).

If the stock fluctuates more than $2.50 from the $166.36 price when we placed the spreads, you might want to adjust the strike prices by $2.50 in the same direction.

As with all investments, you should only make option trades with money that you can truly afford to lose.

Happy trading,

Terry

LRCX Diagonal Condor Earnings Play

Thursday, April 5th, 2018

This is a possible option play using the Diagonal Condor Earnings Strategy that we recently sent you details about.

Lam Research (LRCX) announces earnings after the close on Tuesday, April 17, 2018. The stock has been on a downtrend for the past several weeks, a good indication that expectations are seriously lowered.  We have seen many instances when lowered expectations have resulted in a higher post-announcement date regardless of how well or poorly the actual results were compared to estimates. If you agree with this prognosis, you might consider making these trades (when the stock is trading about $196):

Buy To Open # LRCX 18May18 180 puts (LRCX180518P180)
Sell To Open # LRCX 20Apr18 195 puts (LRCX180420P195) for a credit of $2.20  (buying a diagonal)

Buy To Open # LRCX 18May18 220 calls (LRCX180518C220)
Sell Open # LRCX 20Apr18 205 calls (LRCX180420C205) for a debit of $.30  (buying a diagonal)

This is the risk profile graph for the options which expire on Friday, April 20, 2018 at a time when LRCX was trading about $196 and assuming the implied volatility of the May 25 options will fall from their current 43 to 38 after the earnings announcement on April 17th:

LRCX Risk Profile Earnings Graph April 2018

LRCX Risk Profile Earnings Graph April 2018

The two spreads will involve an investment of about $1400 per pair of spreads.  The maintenance requirement is $1500 and there is a net credit of about $100 after commissions.  If the stock were to end up at any price between $195 and $205, the graph shows that a gain of about 50% on investment would come our way.

The break-even range extends from about a 5% drop to an 8% rise.  This is well within the 4.9% average fluctuation that LRCX has made over the past 8 quarterly announcements.

Since there is a net credit from selling the two spreads, one of the spreads essentially is guaranteed to make a profit.  If the stock were to end up at any price between $195 and $205, both April 20 short options would expire worthless and the May 18 options would still have significant residual value.

If the stock were to fluctuate so much that it ended up outside the $195 – $205 range, the expiring April 20 options could be rolled over to out-of-the-money options in the April 27 series, likely at a credit.  There would be 5 additional weeks where short-term premium might be collected so that the original spreads might ultimately prove to be profitable even though it did not work out as expected in the announcement week.

As with all investments, you should only make option trades with money that you can truly afford to lose.

Happy trading,

Terry

 

A Carmax Spread Trade to Put the Diagonal Condor Earnings Strategy to Work

Tuesday, April 3rd, 2018

A Carmax Spread Trade to Put the Diagonal Condor Earnings Strategy to Work:

Carmax (KMX) announces earnings before the market opens on Wednesday, April 4, 2018.  If anyone would like to place the spread trade that we suggest below, the order must be placed no later than the market close on Tuesday, April 3rd.

Here are the numbers we compiled for KMX for the last eight quarters:

The prices in green are lower than the last pre-announcement price, suggesting that expectations are rising.  Most companies we tested show much many more green numbers than KNX.  Most of the time, KMX showed a high correlation between the actual results and what the stock price did after the announcement (while one might expect this would be universally true, our back-testing and personal experience has proved otherwise).  While the direction of the change for KMX was highly consistent (beating estimates resulted in a higher stock price, and vice versa), the magnitude of the change was not consistent.

In the June 2017 announcement, earnings were a whopping 23% above estimates, but the stock only gained 4% after they became public. In the next quarter, September 2017, earnings exceeded estimates by only 3% while the stock gained 10%.

KMX does not seem consistently beat or fall behind estimates.  This is a different pattern than we see in many companies who low-ball guidance, and then exceed estimates by a large amount quarter after quarter.  KMX does not seem to do this.

The average post-announcement stock price change for KMX was 4.9%.  This is less than the current option prices which have priced in a likely 5.7% change.  Someone who likes the stock might take advantage of the higher option prices and write an out-of-the-money call against their stock, and collect some nice premium in addition to some price appreciation if the stock manages to move higher.

We do not have a strong feeling concerning which way we feel the stock is headed after next week’s announcement other than that we think it will probably go in the same direction as the actual results compared to estimates. Since there is no clear pattern of how well the company does compared to estimates, this leaves us with a neutral position on the direction the stock might take after the announcement.

We have developed what we call the Diagonal Condor Earnings Strategy as our preferred options play prior to announcements.

Based on our neutral outlook on KMX, these are the spreads we placed for the upcoming announcement:

Buy to Open KMX 11May18 58 puts (KMX180511P58)
Sell to Open KMX 06Apr18 61 puts (KMX180406P61) for a credit of $.08  (buying a diagonal)

Buy to Open KMX 11May18 67 calls (KMX180511C67)
Sell to Open KMX 06Apr18 64 calls (KMX180406C64) for a credit of $.08 (buying a diagonal)

The net maintenance requirement (investment) on these spreads is $294 per pair ($300 – $16 plus $10 commission), and we have a net credit of $6 per pair in the account.

This is what the risk profile graph looks like after the market close on April 6, assuming that implied volatility (IV) of the May options falls by 3, from the current 33 to 30 (which is consistent with prior earnings week IV drops for 5-week-out options).

With KMX currently trading just below $62, the graph shows that we should end up with a gain if the stock ends up at any price between $59 and $67 on Friday, April 6th.  The sweet spot of the graph shows an approximate gain of $200 (about 66%) if the price ends up between $61 and $64.

If the stock fluctuates by its average post-announcement amount (4.9%), it would end up somewhere between about $59 and $65. In six of the last eight quarters, the fluctuation would have landed somewhere inside of this range, and in two of the quarters, it would not have.

To summarize our thinking, based on the level of IV for the options prior to the announcement (67) compared to IV for further-out options (33), investors do not get unduly excited about earnings announcements from KMX. The stock generally fluctuates after the announcement in the same direction as the results compared to estimates.  The company does not show a pattern of either consistently beating or falling behind estimates.  We believe this pattern is a perfect candidate for the options play outlined above which is essentially a neutral outlook, neither particularly bullish or bearish, but does best if the stock only fluctuates moderately after the announcement.

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