Trading Earnings Reports Has Risk, Reward Potential

Stocks jumped out of the gate for the third straight day and held through the close for another day of gains.

Rallying equities held up under the shadow of speculative third quarter earnings reports including leading technology companies after the close today.

Trading earnings reports can be a coin toss, but with risk management and an effective strategy traders can work toward favorable odds in this high volatility environment.

Trading earnings reports using risk vs. reward setups

As more than 160 corporate earnings reports roll out this week, including mega cap technology leaders, Simpler’s traders lean into options strategies that can handle the volatility of earnings season price movement.

United Parcel Service (UPS) reported third quarter earnings before the market opened today with mixed results and fell after an initial push higher. UPS closed at $166.99 today, down .37%.

Alphabet, Inc. (GOOGL) and Microsoft Corp. (MSFT) were set to report after the close. Google was up on the day leading into earnings numbers while Microsoft closed down before the report.

In the market today, the Dow closed at 31,836.74 points for a daily gain of 1.07% (adding 337.12 points on the day). The Nasdaq spiked to 11,199.12 points for a 2.25% leap while the S&P 500 popped 1.63% to 3,859.11 points.

More earnings reports are ahead on Wednesday with The Boeing Co. (BA) reporting before the opening bell and Meta Platforms, Inc. (META – formerly Facebook) reporting after the close. Traders can gear up to end the week with big names that include Shopify, Inc. (SHOP) reporting before the open Thursday while Apple, Inc. (AAPL) and Amazon.Com, Inc. (AMZN) report after the close.

Simpler’s traders have strategies in place to identify trades in this high-volume earnings environment while avoiding risk and target maximum profit potential.

Tech leader Apple signals market moves

To get a sense of how the stock market is reacting to earnings season this week, Simpler’s traders look to Apple.

Apple is considered a high-profile stock in all three major indexes. Apple took a hit recently following news it would slow production of its latest smartphone release. Apple closed at $152.34, up 1.93% on Tuesday

This follows rocky price action for the technology sector leader at the end of summer and heading into fall. Apple is down from $182.01 since Jan. 1 after growing from a pandemic low of $57.21 in March 2020.

Henry Gambell, Senior Managing Director of Options Trading at Simpler Trading, highlighted how Apple has been on a continued downslope since mid-August.

“It just keeps moving lower,” Henry said.

He pointed out the uncertainty of rallies throughout the year that range from one day to several days before another pull back.

“Inside that bearish movement you have corrections – rallies that are unable to shift the trend,” Henry said, noting how this is similar to the overall market.

Henry plays this type of movement in Apple – or similar stocks – with butterfly setups designed to allow for profit potential on either side of the price range. A move up or down may produce profits, but limits risk either direction.

Because earnings reports can result in fast, volatile moves in price after earnings are reported, Henry suggested traders be patient and wait for more steady price action if the volatility is too rough.

Broken wing butterfly setup guides trader

A key risk during earnings season is that anything – good or bad – can come out of these quarterly corporate reports.

One missed revenue number or a leadership change can send the stock reeling. Good news of strong earnings results in a poorly performing stock can send the price soaring.

That “coin toss” scenario can catch traders off guard, especially if they work setups focused on one direction in price.

Simpler’s traders work to avoid getting caught on the wrong side of price movement by using more complex options trading setups.

Allison Ostrander, Director of Risk Tolerance at Simpler Trading, has been leaning into the flexibility of the debit broken wing butterfly setup. This strategy has potential for profit as stocks move up or down within price volatility often associated with earnings reports.

With the broken wing butterfly, if price moves up to test resistance the call side opens up profit potential and if price breaks lower then the put side can be positive for the trade.

Sometimes with an earnings report, Allison said, price gaps up before a reversal. This can play into both sides of profit potential with a broken wing butterfly setup.

“Not a bad risk versus reward,” Allison said.

A broken wing butterfly setup is a directional play that can work with the volatility that comes with earnings reports.

“Keep in mind that anything can happen around earnings announcements,” Allison said. “Keep risk on the smaller side. That way if it’s a win it’s a nice win, and if it’s a loss it doesn’t blow out your account.”