Traditionally, AA's earnings announcement marks the beginning of the earnings season for me, and it announces earnings on Monday after market close. Naturally, there are tons of plays you can make, but, unfortunately, not all are ideal for premium selling or, for that matter, other options strategies that rely on a firm directional assumption (like Super Bulls/Super Bears).
Here's a short checklist for what to play and what not to play with options, with an emphasis on what to look for in premium selling setups, as well as a few guidelines as to what to do once you're in the trade:
1) High Liquidity. Look for average daily volume in the underlying of at least 2 million shares. If volume of the actual shares is less than that, in all likelihood you'll be staring at wide bid/ask spreads in the options, which means you're less likely to get filled on any options order for a "fair price" (i.e., a price at or slightly above the mid price). Even if the underlying trades more than 2 million shares, pass on trades where the options' bid/ask spread is grotesquely wide.
2) No Weeklies, No Go. Truth be told, I have, on occasion, played earnings for underlyings that only have monthly expiries available; most of the time I've regretted it. They're a pain and offer less flexibility with rolls than with underlyings that have weekly expiries. Premium selling earnings plays are meant to be quick and dirty; the sooner you can get out of the play and redeploy the capital elsewhere, the better, and being stuck in a play with only monthlies can prolong the process. Additionally, having weekly expires are a hallmark of greater market interest in the options.
3) Both High Implied Volatility Rank/High Implied Volality. Look to enter trades where both the implied volatility rank is greater than 70th percentile and the implied volatility is greater than 50% (i.e., where the implied volatility is high now as compared to where its been and where the implied volatility is currently high). Keep in mind that you're looking for a volatility contraction when selling premium around earnings, so it's obviously better if the implied volatility percentage is higher, since there's "more to contract from."
As an example of this, IBM, which announces earnings shortly, meets the "rank test" (its rank is greater than 70), but fails the implied volatility percentile test (<30%). It's just one of those underlyings that is never all that volatile, so I generally pass it over for premium selling.
4) Don't Force Setups. All of my short strangle/iron condored earnings plays are set up the same way, with the short option strikes in the 80-85% probability out-of-the-money strikes. With iron condors, I can naturally fiddle with the width of my wings' spreads, but I don't monkey with tightening the short options in order to get a particular credit out of the setup. If a setup doesn't offer the credit you would like to see, pass the play over entirely.
(Continued in Part II).
Here's a short checklist for what to play and what not to play with options, with an emphasis on what to look for in premium selling setups, as well as a few guidelines as to what to do once you're in the trade:
1) High Liquidity. Look for average daily volume in the underlying of at least 2 million shares. If volume of the actual shares is less than that, in all likelihood you'll be staring at wide bid/ask spreads in the options, which means you're less likely to get filled on any options order for a "fair price" (i.e., a price at or slightly above the mid price). Even if the underlying trades more than 2 million shares, pass on trades where the options' bid/ask spread is grotesquely wide.
2) No Weeklies, No Go. Truth be told, I have, on occasion, played earnings for underlyings that only have monthly expiries available; most of the time I've regretted it. They're a pain and offer less flexibility with rolls than with underlyings that have weekly expiries. Premium selling earnings plays are meant to be quick and dirty; the sooner you can get out of the play and redeploy the capital elsewhere, the better, and being stuck in a play with only monthlies can prolong the process. Additionally, having weekly expires are a hallmark of greater market interest in the options.
3) Both High Implied Volatility Rank/High Implied Volality. Look to enter trades where both the implied volatility rank is greater than 70th percentile and the implied volatility is greater than 50% (i.e., where the implied volatility is high now as compared to where its been and where the implied volatility is currently high). Keep in mind that you're looking for a volatility contraction when selling premium around earnings, so it's obviously better if the implied volatility percentage is higher, since there's "more to contract from."
As an example of this, IBM, which announces earnings shortly, meets the "rank test" (its rank is greater than 70), but fails the implied volatility percentile test (<30%). It's just one of those underlyings that is never all that volatile, so I generally pass it over for premium selling.
4) Don't Force Setups. All of my short strangle/iron condored earnings plays are set up the same way, with the short option strikes in the 80-85% probability out-of-the-money strikes. With iron condors, I can naturally fiddle with the width of my wings' spreads, but I don't monkey with tightening the short options in order to get a particular credit out of the setup. If a setup doesn't offer the credit you would like to see, pass the play over entirely.
(Continued in Part II).
