The Compelling Post Earnings Volatility Trade in Vmware Inc
Vmware Inc (NYSE:VMW) : The Volatility Option Trade After Earnings
Date Published: 2018-07-28
DisclaimerThe 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.
LEDEThere is a compelling pattern period that starts one-day after Vmware Inc (NYSE:VMW) earnings and lasts for the 10 calendar days to follow, that has been a rather large winner for the last year without a loss, and the pattern has persisted for 2-years.
This is one of the more powerful post-earnings non-directional back-tests we have come across.
Vmware Inc (NYSE:VMW) EarningsIn Vmware Inc, irrespective of whether the earnings move was large or small, if we waited one-day after earnings and then bought a ten-day straddle (using 3-week options), the results were quite strong. This trade opens one-day after earnings were announced to try to find a stock that moves a lot after the earnings announcement.
Before we dive into the test, we can look a the stock chart and see the pattern in action.
The green "E" icons represent earnings dates, and we have highlighted the rather drastic move for 1-10 days after earnings. It's that yellow highlighted area that we're back-testing, as a non-directional trade (up or down doesn't matter).
Now, 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:
Rules* Open the long at-the-money straddle one-calendar day after earnings.
* Close the straddle 10 calendar days after earnings.
* Use the options closest to 21 days from expiration (but more than 10 days).
This is a straight down the middle volatility bet -- this trade wins if the stock is volatile the week following earnings and it will stand to lose if the stock is not volatile. This is not a silver bullet -- it's a trade that needs to be carefully examined.
But, this is a stock direction neutral strategy, which is to say, it wins if the stock moves up or down -- it just has to move.
RISK CONTROLSince blindly owning volatility 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 straddle 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 volatility early in the week rather than waiting to close 10-days later.
Another risk reducing move we made was to use 21-day options and only hold them for 10-days so the trade doesn't suffer from total premium decay.
RESULTSIf we bought the at-the-money straddle in Vmware Inc (NYSE:VMW) over the last two-years but only held it after earnings we get these results:
Long At-the-Money Straddle
|Wins: 7||Losses: 1|
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).
Track this trade idea. Get alerted for ticker `VMW` 1 days after earnings
We see a 287% return, testing this over the last 8 earnings dates in Vmware Inc.
Looking at AveragesThe overall return was 246.3%; but the trade statistics tell us more with average trade results:
➡ The average return per trade was 32.6% over 10-days.
➡ The average return per winning trade was 39.6% over 10-days.
➡ The average return per losing trade was -16.7% over 10-days.
Looking at the Last YearWhile we just looked at a multi-year back-test, we can also hone in on the most recent year with the same test:
|VMW: Long Straddle|
|Wins: 4||Losses: 0|
Tap Here to See the Back-test
➡ The average return for the last year per trade was 37.2% over 10-days.
MOVING FORWARDThere's a lot less luck to successful option trading than many people realize. Take a reasonable idea or hypothesis, test it, and apply lessons learned.
Tap Here, See for Yourself
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.