Dave and his family were on their way home from two weeks in Antibes, a beautiful coastal town in the south of France. We had a wonderful conversation about our respective vacations, family and well, to my chagrin, investing.
I mean, don’t get me wrong, I absolutely love talking about investing, more specifically options, but I find my approach is very foreign to most investors. As a result, I often get the glazed stare and obligatory nodding of the head when the discussion turns to my favorite topic, options.
Dave was a meat and potatoes investor. He had a few index funds in addition to what he called his gambling stocks. Gambling stocks? He said he had two penny stocks for speculation purposes, but after further discussion he told me just how much he had invested in both stocks and I immediately felt bad for him. He also went on to say, “why not me, someone has to hit the lottery, right?”
He went on to tell me a long-winded story as to why he bought both. Well, he heard from a guy…I don’t think I need to say any more. Of course, he was already losing his shirt on both stocks.
I didn’t have the heart to tell him that penny stocks aren’t the key to financial freedom. Get rich quick schemes don’t exist.
After his story he went on to ask about how I invest. I told him all of my decisions are based on probabilities. He looked befuddled.
I went on to tell him about my earnings season strategy . . .one-day earnings trades . . . and that since inception it has an 80% win-rate and a cumulative gain of 551.4%.
I went on to show him what I meant by investing with probabilities using a recent trade in MSFT.
First, I explained to him that the market actually tells us what the expected move is for every stock prior to earnings. So, the image below shows us that the expected move in MSFT is from roughly $129.50 to $140.50 for a range of $11.
So, I explained that if we know what the expected move is for MSFT, we can place a trade around that range using a high-probability trade. The trade has over an 85% probability of success. In fact, our probability is 87.33% that MSFT does not move above $141 after earnings are released and 85.09% that the stock doesn’t push below $129 after earnings are released.
Simply stated, if MSFT stays in our stated rage, we will make money. Moreover, the trade lasts one day. Thankfully, MSFT opened up within our range and we made 13.6% on the one-day trade.
Doesn’t sound like a lot, but we make about 10 trades per earnings season and as I stated before, our totals are 551.4%.
He seemed incredibly interested, so the conversation went on for another two hours . . . and just yesterday he called me to ask more about the one-day earnings trades strategy and other options-based strategies. I told him investors should never just use one strategy. We should use a variety of different options strategies that take advantage of different market environments, bullish, bearish and neutral. Moreover, we should use strategies that have different durations or time frames.
Inherently, people want to cling on to what is working now, until it stops. Then they move on to what they think is the next best strategy. Unfortunately, this leads to chasing returns. If we are diversified from the onset using a variety of different options strategies, this never becomes a concern.
In Dave’s case, the light came on. I think he just might be a convert to the world of options. Most investors are, once they have a full understanding just how powerful the strategies are when used correctly.