Alibaba Group (BABA) Put Spreads and Earnings

PREFACE

Selling puts is a common option strategy during a bull market, but it turns out that looking at a lower risk put spread, and being rather clever in how we treat earnings, yields powerful results in Alibaba Group Holding Limited (NYSE:BABA) . More urgently, if we do not look at this approach, we would likely miss some worthy short put spread opportunities and incorrectly identify them as losers. This is one of those cases.

STORY

There is a lot less 'luck' involved in successful option trading than many people know, and it's not about guessing stock price direction. Let's review this phenomenon right now for BABA. Let's first examine a two-year back-test of a short put spread strategy implementing these rules:

* Trade monthly options (roll the trade every 30-days).
* Avoid earnings
* Test short put spreads for two-years

Here's how to implement this quickly in the back-tester:

 

If we do this test, we find that the best short put spread to employ is the 25 delta, 10 delta put spread.

RESULTS

If we do a short put spread in Alibaba Group Holding Limited (NYSE:BABA) over the last two-years but always avoid earnings we get these results:

The results above reveal two critical pieces of information. First, we see a strong performing short put spread with a 8.1% return. But, just as important, we also see that the 8.1% return in the short put spread considerably out-performs Alibaba Group Holding Limited stock over the last two-years, which hit -18.1%.

Altogether we're looking at a 26.2% out-performance while taking less risk than owning the stock outright and always avoiding earnings risk.

GOING FURTHER

While out-performing the stock and avoiding the risk of earnings is a powerful implementation of a short put spread, there's even more going on here. We can repeat this back-test but this time examine only trading earnings. Specifically, we open our short put spread two-days before earnings, let the earnings event occur, and then close the position two-days after earnings.

Here's how easy the test is. We simply click the appropriate buttons.:

Now we examine the results for that same 25, 10 delta short put spread.

Now we see explicitly the impact of avoiding earnings. Holding the short put spread position in Alibaba Group Holding Limited (NYSE:BABA) through earnings under-performed the stock and certainly under-performed a short put spread that avoided this risk. In fact, our strategy to avoid earnings beat the strategy held only during earnings by a whopping 23.5%. The reality is that it's remarkably easy to overlook this implementation without diving just a little deeper than the standard option analysis.

TRADING TRUTHS

When we take the time to go through this analysis, which really isn't very hard with the right tools, this approach with Alibaba Group Holding Limited (NYSE:BABA) reveals that this ethereal concept of 'options expert' has been made made far too complicated and even intangible. Below, we go the final step (with a video).

WHY THIS MATTERS

When we wrote that there's actually a lot less 'luck' and a lot more planning in successful option trading than many people know, this is what we meant.

It's not about trying to guess which stocks will go up or down.

What the back-tester allows us to do is find calm, low stress stocks or ETFs (like SPY, QQQ, etc), and in this case, Alibaba, and find the option strategies that have created a high percentage of winning trades, gaining profitability slowly, while avoiding unnecessary risks - specifically, avoiding earnings.

In a five minute video, your entire view of the options world and what people mean when they say 'expert trader' will be turned upside down - to your advantage.

Tap here to see the CML Pro option back-tester.

Thanks for reading, friends.

Risk Disclosure

Trading futures and options involves the risk of loss. Please consider carefully whether futures or options are appropriate to your financial situation. Only risk capital should be used when trading futures or options. Investors could lose more than their initial investment.

Past results are not necessarily indicative of future results. The risk of loss in trading can be substantial, carefully consider the inherent risks of such an investment in light of your financial condition.