How to Trade The Maddening Tech Gem Applied Optoelectronics
Applied Optoelectronics Inc (NASDAQ:AAOI) : How to Trade Applied Optoelectronics Inc After an Earnings Rip
Date Published: 2018-06-11
The results here are provided for general informational purposes, as a convenience to the readers. The materials are not a substitute for obtaining professional advice from a qualified person, firm or corporation.
There is a bullish momentum pattern in Applied Optoelectronics Inc (NASDAQ:AAOI) stock 2 calendar days after earnings, if and only if the stock showed a large gap up after the actual earnings announcement.
This is a conditional entry -- the company reports earnings and if the stock move off of that report is a 3% gain or larger, then a bullish position is back-tested looking for continuing momentum. The event is rare, but when it has occurred, the back-test results are noteworthy.
AAOI has been a maddening stock to own for many tech investors -- it was once a rocketing tech darling, came crashing down 70% in short order, and has since recovered about 30%. Here is a 3-year chart:
But a back-test proves out that the key to successful option trading in this company over the last 5-years has been short bursts of bullish risk exposure only after an earnings beats.
Applied Optoelectronics Inc (NASDAQ:AAOI) Earnings
In Applied Optoelectronics Inc, if the stock move immediately following an earnings result was large (3% or more to the upside), if we test waiting two-days after that earnings announcement and then bought a three-week out of the money (40 delta) call, the results were quite strong.
This back-test opens one-day after earnings were announced to try to find a stock that continues an upward trajectory after an earnings rally.
Simply owning options after earnings, blindly, is likely not a good trade, but hand-picking the times and the stocks to do it in can be useful. We can test this approach without bias with a custom option back-test. Here is the timing set-up around earnings:
* Condition: Wait for the one-day stock move off of earnings, and if it shows a 3% gain or more in the underlying, then, follow these rules:
* Open the long out-of-the-money (40 delta) call two days after earnings.
* Close the long call 14 calendar days after earnings.
* Use the options closest to 21 days from expiration (but more than 14 days).
This is a straight down the middle direction trade -- this trade wins if the stock is continues on an upward trajectory after a large earnings move the two-weeks following earnings and it will stand to lose if the stock does not rise. This is not a silver bullet -- it's a trade that needs to be carefully examined.
But, this is a conditional back-test, which is to say, it only triggers if an event before it occurs.
Since blindly owning calls can be a quick way to lose in the option market, we will apply a tight risk control to this analysis as well. We will add a 40% stop loss and a 40% limit gain.
In English, at the close of every trading day, if the call is up 40% from the price at the start of the trade, it gets sold for a profit. If it is down 40%, it gets sold for a loss. This also has the benefit of taking profits if there is a stock rally early in the two-week period rather than waiting to close 14-days later.
Another risk reducing move we made was to use 21-day options and only hold them for 14-days so the trade doesn't suffer from total premium decay.
If we bought the 40 delta call in Applied Optoelectronics Inc (NASDAQ:AAOI) over the last five-years but only held it after earnings and after an earnings pop higher, we get these results:
Long 40 Delta Call
|Wins: 8||Losses: 2|
Tap Here to See the Back-test
The mechanics of the TradeMachine® Stock Option Backtester are that it uses end of day prices for every back-test entry and exit (every trigger). AAOI likely doesn't have earnings due out until late July or early August, so setting an alert may be useful, which you can do below:
Track this trade idea. Get alerted for ticker `AAOI` 2 days after earnings
Looking at Averages
The overall return was 1644%; but the trade statistics tell us more with average trade results:
➡ The average return per trade was 65.8% over each 12-day period.
➡ The average return per winning trade was 93.4% over each 12-day period.
➡ The average return per losing trade was -44.5% over each 12-day period.
MORE RECENT HISTORY
We can do this same back-test and examine the results over the last two-years, the time period when the stock was wildly volatile:
Long 40 Delta Call
|Wins: 4||Losses: 1|
Tap Here to See the Back-test
We see the same win-rate as we did over the five-year test (80%), and the average return per trade (including the loss) was 83.2%.
Bullish momentum and sentiment can be quite powerful with the tailwind of an earnings beat. This is just one example of what has become a tradable phenomenon in AAOI. To identify patterns that repeat over and over again, empirically, 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.
Please note that the executions and other statistics in this article are hypothetical, and do not reflect the impact, if any, of certain market factors such as liquidity and slippage.