A New Plan For Trades Ahead of Earnings

Sean McLaughlin
January 17, 2024

One of the areas I’ve identified where I can improve my trading is in trade selection. Specifically, my trade avoidance.

Due to my early trading experience as a stock trader, it was ingrained in me during my formative trading years to avoid positioning in stocks that are about to announce earnings.

And for good reason.

Once a stock trade is on, our only real defense against punishing losses is to have a stop-loss order working. That’s fine if you trust yourself to always honor your mental stops. But for most of us mere mortals, the good-til-canceled stop-loss order is our best protection.

99% of the time, a stop-loss order works as intended. Sure, we might suffer a little slippage here and there. But it works like a charm in preventing disaster. Especially for intraday trades.

But for overnight holds, a stop-loss order has its limits. And these limits are fully exposed in the event of a binary news release – most notably earnings announcements.

I might be long a $100 stock with a stop at $98. But I will not be stopped out at $98 should the stock open the next trading day at $75 per share following a bad earnings reaction. Nope. I’ll get filled at $75 – way below my stop-loss level. Why? Because that’s where the market is and that’s where the best bid below $98 is right now.

For the most part, I’ve avoided these situations for most of my career. It worked for me then, and I’ve carried this mentality forward with me for over two decades.

As we head into yet another earnings season, I’ve been taking another look at this avoidance.

I said to myself: “Sean, one of the reasons you prefer trading options is the ability to precisely define your risks!” And this is true regardless of whether or not an earnings or similar binary event is on the horizon. Whatever “worst-case scenario” that may unfold, I know the most I can lose no matter what. No. Matter. What.

The only thing that might possibly change is that the win or loss on the trade may come sooner, thanks to this catalyst.

Is that a bad thing?

In the grand scheme of things, I think this is a desirable outcome. If I’m stopped out on a defined-risk bet, then great! I can redeploy what’s left of my capital into my next best idea. Or, I can leave it in cash if that’s my best option. Either way, the capital isn’t tied up in unproductive uses while simultaneously drawing my mental energy to a losing position. That would be bad all around.

If the trade is a win, even better! Faster returns allow me to compound my money faster. No complaints there!

Why not use one of the best features of options trading to let me trade the best opportunities on the board? Why am I avoiding trades when I can define my risks?

I’m making the change this earnings season.

Now, this doesn’t mean that I’m going on the hunt for trades to put on right ahead of earnings. Nope!

What it means is that I’ll no longer let the threat of an upcoming earnings release dissuade me from positioning in a stock that has a technical setup that I like.

JC, Strazza, and the All Star Charts analysts say it all the time: “Surprise breakouts tend to happen in the direction of the underlying trend.” Earnings reactions fall into this category.

If I got into a trade because I believe in the trend and the technical setup, then chances are any “surprise” move will happen in my favor.

Come what may, if I’ve defined my risk and sized my position properly, any losses I take will be no different from any other loss. Maybe quicker, maybe not. Either way, I think this is an improvement upon blanket avoidance.

What say you?

 ~ Sean

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