A beginner’s guide to understanding an earnings strangle — the definition, how it works, and a basic example.
In simple terms, getting positioned on both sides of a trade is called a strangle. Executing this maneuver ahead of an earnings announcement is known as an earnings strangle.
An earnings strangle is initiated by simultaneously buying an out-of-the-money call option paired with an out-of-the-money put option. This establishes a position with (theoretically) unlimited profit potential to the upside while limiting any downside losses to a predetermined amount.
The goal is to profit off a big earnings reaction in either direction — up or down. When executed correctly, traders can profit off a sizable price movement without knowing the direction.
Let’s say Caterpillar CAT – NYSE is scheduled to report earnings on April 25.
You could establish an earnings strangle by buying the following options…
Now you don’t know if CAT will beat earnings or disappoint. As long as the stock moves at least 5% on earnings day, it doesn’t matter.
As it so happens, CAT surprises with strong earnings and the stock jumps from $96 to $104 — a 8.3% gain.
And in turn, your calls gain 360% while your puts expire worthless.
Altogether, this trade balances out to make 130%. That’s because the substantial gain from the calls far outweighs the small loss from the puts.
Earnings reactions are often the largest single-day moves a stock makes all year. That’s precisely when you want to be involved, because that’s when the money is made.
Earnings strangles have distinct advantages…
In our experience, earnings strangles are consistently the most profitable trading strategy.
If you’d like to start trading earnings strangles but could use some guidance, we invite you to join us.
When it comes to earnings, most traders swing for the fences and speculate on one direction — either up or down. Sometimes you win. Other times you lose. It’s always a coin-flip.
But by trading earnings strangles with us, your odds increase significantly.
Instead of guessing the right direction, you play an inexpensive call option and an inexpensive put option — simultaneously.
This way, the directional risk is eliminated. And when done correctly, as long as the stock moves up or down at least 5% on earnings day, you’ll always win.
Even factoring in some earnings clunkers, the chances of 100%, 200%, or even 450% returns are in your favor.
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