Earnings Trading

Earnings reports are the most important scheduled events for individual stocks. Four times a year, public companies report revenue, profit and often guidance for future quarters, and their share prices can move 5%, 10% or more overnight. Earnings trading is any strategy that positions around these reports: before the announcement, through it, or in the days and weeks after. Success depends less on whether results are good or bad and more on how they compare with expectations.

What moves a stock on earnings#

A company can beat estimates and still fall if guidance disappoints, or miss and rise if the outlook improves.

The implied move#

Options markets price in an expected size of move around earnings. A common estimate is the price of the at the money straddle (one call plus one put at the strike nearest the stock price) expiring just after the report, divided by the stock price.

Earnings strategies#

Before the report#

• Run up trades: some stocks drift up into earnings as attention builds. Traders exit before the report to avoid gap risk.
• Options volatility build: implied volatility usually rises into earnings; some traders buy options early and sell before the release. See Implied Volatility (IV).

Through the report#

• Directional bets: holding stock or options through the release. This is essentially a binary bet on the reaction and carries full gap risk.
• Volatility selling: selling straddles, strangles or iron condors to profit if the move is smaller than implied. Losses can be large if the move is big. See Iron Condor.
• Volatility buying: buying straddles or strangles if you expect a larger move than implied.

After the report#

• Gap and go: trading continuation of a strong post earnings gap on high volume. See Price Gaps and How to Trade Them.
• Gap fade: trading partial reversal of an overreaction.
• Post earnings drift: research going back to Ball and Brown in 1968, and Bernard and Thomas in 1989, found that stocks with big positive surprises tended to keep outperforming for weeks, and those with negative surprises tended to keep underperforming. See Earnings Reactions and Post-Earnings Drift.

Risk management#

1. Size for the gap, not your stop. A stop cannot protect you from an overnight move. See Position Sizing.
2. Know the date and time: before the open or after the close. See Earnings Season Explained.
3. Use defined risk options if you want exposure through the report.
4. Avoid holding unintended exposure: swing traders often close positions before earnings.
5. Remember implied volatility crush if you own options through the event.

Common mistakes#

• Trading the headline number only and ignoring guidance.
• Buying options without checking the implied move.
• Holding full size through earnings by accident.
• Assuming good results mean a higher price.

Frequently asked questions#

How do you trade earnings?#

Traders position before the report, through it with stock or options, or after it by trading the gap or drift. Each carries different risks.

Why do stocks fall after beating earnings?#

Because the market reacts to results relative to expectations, including guidance. A beat that was already expected, or weak guidance, can lead to a decline.

What is the implied move for earnings?#

The size of move priced in by options, often estimated as the at the money straddle price divided by the stock price.

Next, learn to trade the big economic picture with Macro Trading.

Sources#

• Wikipedia, Post earnings announcement drift