Earnings season is once again winding down.
But, as those who pay close attention understand, earnings season always ends with a bang as the big-box retail stores typically announce. As you can see in the table below Walmart is due to announce next week, with Home Depot (HD), Lowe’s (LOW), Target (TGT) and several others due to announce over the next several weeks.
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I use the weekly table above as a guide to what I want to focus on in the week ahead. It provides me with some simple but important implied volatility readings along with the average move after earnings, which gives me great insight into how I will approach my strategy of choice (which strikes to use, etc.).
As I’ve stated in the past, I hope that by going through a few examples of various options strategies every earnings season we can start to build a solid foundation on how to appropriately apply options selling strategies with a focus on high-probability trades.
Today I’m going to focus, once again, on Walmart (WMT).
The retail behemoth is due to announce before the opening bell on February 17. I’m going to go through a risk-defined strategy and an undefined risk strategy taking a high-probability approach. I hope this continues to be a helpful exercise for not only trading around earnings, but for also using similar strategies using various timeframes (expiration cycles).
Here is how Walmart has performed immediately following earnings dating all the way back to November 6, 2016.
Image courtesy of Slope of Hope
Iron Condor Earnings Trade in Walmart (WMT)
Walmart (WMT) is due to announce before the open next Thursday. So let’s take a look at a potential trade using a risk-defined options strategy like an iron condor.
The stock is currently trading for 136.25.
The next item is to look at Walmart’s expected move for the expiration cycle that I’m interested in.
The expected move or expected range over the next seven days can be seen in the pale orange colored bar below. The expected move is from 131 to roughly 141, for a range of $10.
Knowing the expected range, I want to, in most cases, place the short call strike and short put strike of my iron condor outside of the expected range, in this case outside of 131 to 141.
This is my preference most of the time when using iron condors.
If we look at the call side of WMT below for the February 18, 2022 expiration, we can see that the 144 call strike offers an 86.70% probability of success and the 149 strike offers us a 95.03% probability of success. For this example, I’m going to sell the short call at the 144 call strike and define my risk with the 149 call strike. By choosing the 149 call strike to define my risk, I know that there is less than a 5% chance that WMT will close below the 149 strike at expiration.
Now let us move to the put side.
Same process as the call side. But now we want to find a suitable strike below the low side of our expected move, or 131. The 127 put strike, with an 88.12% probability of success, works as our short put strike. I’m going to stock with a 5-wide spread on the put side as well so the 122 will define our probability of success on the downside. The 122 put strike has a 95.64% probability of success. This means there is less than a 5% chance of taking a max loss on the trade.
We can create a trade with a nice probability of success if Walmart stays between our 17-point range, or between the 144 call strike and the 127 put strike. Our probability of success on the trade is 86.70% on the upside and 88.12% on the downside.
I like those odds.
Here is the trade:
Simultaneously:
Sell to open WMT February 18, 2022 144 calls
Buy to open WMT February 18, 2022 149 calls
Sell to open WMT February 18, 2022 127 puts
Buy to open WMT February 18, 2022 122 for roughly $0.60 or $60 per iron condor
Our margin requirement is $440 per iron condor.
Return on the trade is 13.6%.
Again, the goal of selling the WMT iron condor is to have the underlying stock stay below the 144 call strike and above the 127 put strike immediately after WMT earnings are announced.
Here are the parameters for this trade:
- The Probability of Success – 86.70% (call side) and 88.12% (put side)
- The maximum return on the trade is the credit of $0.60, or $60 per iron condor; that’s a 13.6% return per iron condor
- Break-even level: 144.60 – 126.40
- The maximum loss on the trade is $440 per iron condor. We always adjust if necessary, and always stick to our stop-loss guidelines. Position size, as always, is key.
Remember, I prefer to make these trades the day before earnings are announced, so I would expect to see the premium a bit lower than it is now due to decay. So, premium could be an issue at the time of the trade. But I like to see where potential trades stand the week prior, so I have a good understanding what stocks look appealing for a potential trade around earnings, which is why I go through this exercise with the stocks on my weekly earnings watch list.
As always, if you have any questions, please do not hesitate to email me or post a question in the comments section below. And don’t forget to sign up for my Free Newsletter for education, research and trade ideas.