I recently wrote up two bullish trades to profit from Facebook Inc (NASDAQ:FB). Luckily, I caught an uptrend and the profits came quickly so I booked them. This week I want to reset to try and repeat performance — but this time I have an earnings report to worry about.
Traders are fickle around earnings. The short-term reaction to an earnings report is more gambling than investing, regardless of the quality of the report. Often enough great company stocks come under selling pressure even on solid reports.
FB stock is a mega cap and usually they takes cues from other mega cap earnings reactions. We recently saw a split decision between Microsoft Corporation (NASDAQ:MSFT) and Alphabet Inc (NASDAQ:GOOG, NASDAQ:GOOGL).
Eventually these companies are winners; they are beasts with little chance of debacles. But for the short term, investors have to contend with the knee-jerk reactions.
Having said that, there are ways I can trade earnings reports without much out-of-pocket risk. Last week I sold puts in MSFT to buy its calls. The trade was an easy win.
This week, I will set up a trade to benefit from a positive reaction to FB’s earnings. Experts think that Wall Street will not be impressed by what FB stock management has to report and that the risk is to the downside. I want to bet on the opposite but without much immediate risk.
FB Stock Trades
Click to Enlarge The Trade: Buy Facebook Mar $135 calls. This is a bullish trade for which I pay $3 per contract to open. To profit, I need FB stock to rally past my strike before mid March. I could change this trade to a debit call spread to lower the entry cost. So I would instead buy the $135/$140 debit call spread and only spend $1.40 per contract. The trade-off is that with the spread, I cap my maximum profit to $3.60 per contract.
I usually like to lower my entry cost especially when volatility is high so I need to cautiously sell options.
The Bank: Sell the Facebook Dec $100 put. This is a bullish trade for which I collect $3.80 per contract. This trade has an 85% theoretical chance of success and a 18% price buffer from current price.
I only sell naked puts if I am willing and able to own the stock at the strike sold. IF FB stock falls below $100 per share this year I would be put the stock. Anything lower than $96 per share would be losses for me.
The Twist: Selling naked puts is not suited for every risk profile. So I can change the bank trade to being a credit put spread instead. Selling a spread makes the trade’s maximum risk finite. For example, I can sell the FB Dec $100/$95 credit put spread. I collect $1.06 per contract to open. If successful, this trade yields 22% on money risked.
This is one of those occasions where I could do either or both. Some traders don’t like selling risk into an earning report. I don’t mind doing it with quality stocks like FB. I also usually do it far out in time and away from current levels.
I am not required to hold option trades through expiration. I can close them at any time for partial gains or losses.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and stocktwits at @racernic.
