I love when a quality company gaps down after earnings. Let's take a look at a nice trade we took this week in Good Kids Trading on Schwab. Many traders use the Think or Swim software, which Schwab acquired when they purchased TD Ameritrade. Schwab is a very large financial services company, so they were on my earnings watch list.
As the Good Kids know, every week I post the most anticipated upcoming earnings in our Discord! This week was no different, here's a screenshot from our GKT discord:
On Tuesday, Schwab reported an earnings beat; they did miss revenue, and the stock was gapping down premarket. I was able to set up this trade in my head and put it into my broker in less than 5 minutes, but I want to break it down for you step-by-step so you can learn my process as well! You might think you don't have time, but practically everyone has 5 minutes.
I opened TradingView and saw SCHW was gapping down! Good, I thought. The only way to buy low and sell high is when a stock has a down day. If you don't know what TradingView is, this is a web based software that many technical traders use. I will write an article for you on how I use the software and how I have customized my charts in an upcoming blog post. You should subscribe to the website for real time updates!
Next, I looked for the moving averages on the same chart; I have my moving averages on my chart by default. As I've previously mentioned, I pay close attention to moving averages for many of my trading decisions. The daily 100 moving average was 58.65 (the blue line below), the daily 200 moving average was 57.32 (the red line). I circled the level on the chart below.
Since both these moving averages were close to previous support around 56, I don't mind owning shares of SCHW here. I've drawn red boxes showing the support/resistance I see on the chart below:
Next, I opened my broker and looked at the option chain. The options chain is a graph that looks slightly intimidating at first. I'll break this down for you in an upcoming article so stick around and subscribe!
We like to sell options around 45 days to expiration as this is the ideal time frame to benefit from theta decay. Theta decay is a fancy term that measures how the value of options loses value over time. It's mid January so I had two real choices, February or March. I mainly choose monthly options for put sales. So, as you see below (I drew red boxes around the two most reasonable expirations.) February has 30 days before expiration, March has 58:
My thought process is this. If there is enough premium, I'm going to sell my puts in February because if I'm wrong, I can roll that short put to March for a credit. When I say is there "enough premium" I'm looking for more than 1% premium for every 30 days. I want to get paid 1% of the stock's current price as my reward for taking on the obligation to potentially buy the stock. There also needs to be enough reward, so ideally I would like to receive about $100 in real money for each put I sell knowing my profit would be $50. I know this might not seem like a lot of money, but it is when you consider it takes 5 minutes of your time it really adds up when you trade with enough frequency.
Let me oversimplify what a roll is just in case you don't know. If I sold the puts in February and SCHW kept going down, I'd be obligated to buy the stock. As my the stock reaches the strike price of my put I would perform a 'roll." Rolling the put I sold would mean I buy to close the February put I sold for a loss. But I would then sell a new put in March for a larger credit than what I just paid to close the February put. If I time it right, I could very likely move the strike from 57.50 to 55, meaning if I were put the shares, they would have an even better cost basis! Since time and uncertainty are priced into an option, i get paid for going further out in time because I'm selling not buying!
So again, I decided in about 15 seconds that going to target February, and I'll be a little more aggressive with the strike of my put because March is my backup plan! I can probably roll down to March 55 puts if I end up being wrong and SCHW doesn't bounce. Since the moving averages were 58 and 57, what better strike than the 57.50. I would own shares of SCHW at this level in the worst case scenario.
Do you see the little blue dotted line in the Tasty Trade platform (I highlighted it with a red line above) that is referred to as the standard deviation. The Tasty Trade platform shows you this on their options chain. Not all brokers do. In simple terms, standard deviation in an options chain helps us get a sense of how much a stock's price might fluctuate.
The orangish highlight in the middle (i added the red box) is the expected move of the stock. It's essentially a forecast for how much a stock is expected to change, calculated by market makers using mathematical models. Tasty Trade shows it this way, not all brokers display it so simple.
I know this is a lot of words, but I'm really spelling this out step-by-step so you can understand my method here. Let's recap: if I sell the 57.50 put, I have 2 moving averages that should act as support, I am 1 standard deviation away, and I'm outside the expected move for the stock in the expiration that I chose. I also have a backup plan of rolling my put out in time to give me even more time to be right. All of these makes this a high probability trade in my mind. Does it always work? NOPE nothing always works, is this a nice setup and is taking this trade good risk management? YES I thought so!
You can literally do this in a couple of minutes after you do this a little while. If it's not obvious to you this is a high probability trade let me show you how Tasty Trade will actually calculate your probability of profit as well. The cool thing about many of our 'math based trades' is you don't even have to do the math. The broker will do it for you! I highlighted the P50 of this trade, which is the probability of this profit hitting 50% of the premium received. There is a 72% chance this option expires totally worthless, but I don't like to keep naked options open that long due to what is called a tail risk. That's fancy jargon meaning the risk to reward isn't good, I'm not going to get into a bell curve discussion here, just Google if it you are a nerd like me :)
This trade was a nice math based trade, as I always do I post my trades (for free) and for everyone to see to the GKT Discord. Do all our trades win? NO! We show you how we manage our trades, and we show our losing trades as well. Never are we making recommendations you should take these trades, we're doing this to help educate you so you can start making trades on your own!
Below is the post I put in discord 1 minute after open. The lingo of the post is Sell To Open (STO) Schw February 57.50 puts for .95 in premium. You can see the actual trade setup in the tasty trade brokerage. I collected $95 for every put I sold
We also have a trade idea's section, you can see that I let everyone know exactly my plan before the market even opened!
For the SCHW trade, my profit target is 50% of the credit I received. I got .95 for the puts I sold. I went ahead and just set my closing order for .45 as that's easy math (so a little over 50%). This trade closed right over 1 hour. I set a GTC order so I had already walked away from the computer. A good to cancelled order mean the broker will handle buying the puts (which closes the trade) for you at your profit target. There is literally no reason to sit and watch this trade.
Was it guaranteed that I was going to win this trade? Absolutely not, and there is zero reason for you to overleverage or sell too many of these. If you can't afford to own 100 shares of SCHW, then you should NOT be doing this strategy. I also do not think you should be selling 10 of these either, unless you REALLY want 1,000 shares of SCHW, which for some people that's possible and they can still be diversified.
If this trade went bad, I would have taken the shares of the company. I have extensive experience hedging my positions, and I would have sold covered calls to reduce cost basis. Another strategy I've explained in a previous blog. Here's the real life example.
Post earnings put sales is one of my most 'successful' strategies and something I do often. They don't always close the same day, but with a long enough timeframe, I can turn almost every one of these into a winner. It took me 5 minutes to set up and execute this trade, and I went on to get other things done while the stock market provided me income. You can do the same thing. You can follow along and join a community of supportive traders by joining our discord.
If you want more information you should join the GKT discord to discuss more and connect with like minded people who trade the stock market! I hope this article was valuable to you. We want to help educate and show you trading doesn't have to be complicated, and you can do this. Happy Trading Good Kids!
Disclaimer: this is NOT financial advice. I’m basically just some dude on the internet who’s been trading a while, and I use the stock market as my primary source of income. None of this is financial advice it’s purely educational!
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