Replies to post #2719 on Snack info board

[Lord DarkHelmet]

Butterfly vs Long Call. Just depends on your gamble on the momentum of the move.

Personally, I would always use a spread. It "spreads" the risk of a major loss. Plus, if you buy a long Call at this volatility, you have to calculate what your long Call would be after the IV crush. Even with a larger upside move, you might not make any money, as the MM's bring down the option's price on you through this anticipated IV drop. A long Call is a Vega positive net position, so a drop in IV will kill the position and the odds are stacked against you to make money. However, if you pick a strike that is near OTM, then if AAPL jumps far, most of your value will be intrinsic, which is not subjected to volatility manipulation. You would be paying a high premium for the time value to enter however. If AAPL does go down, you are toast.

I will look at AAPL next week and give you an idea of a possible butterfly position.

[Lord DarkHelmet]

Sorry, I have been on vacation and not focusing on investing, so it took me a while to get back to you.

What you want to do during earnings is take full advantage of the anticipated IV drop (IV crush). Currently, AAPL's IV is around 38. You can anticipate it dropping to near 22-24 after earnings based on its HV (Historic Volatility).

The best strategy to use is a time bomb butterfly. Essentially, you are selling a buttefly OTM at the direction you think it will move. You seem to have an bullish bias, so we will go with that.

First, calculate what the MM's have priced into the expected move after earnings. The best way to do that is to calculate what the straddle costs. Currently, the Oct 12 (weekly) straddle costs ~$37.22. Divide that by the share price of $626 and you get an anticipated move of 5.9% either direction after earnings.

So, what I would do is sell a butterfly about 6% OTM. In this case it would be at 660 strike if you were bullish. Make it a 10 point wide contract to cut down on capital exposed. So, you would buy 1 contract of the 650 Call, sell 2 contracts of the 660 Call and buy 1 contract of the 670 Call. This would be a net negative Vega position, so when IV drops, the position benefits.

The next question is to whether you sell the weekly butterfly (3 days to exp), or the November monthly butterfly (24 days to exp). To different strategies. Both would cost about the same. The weekly would give you much more profit if you are correct but be less forgiving on the move in that direction. If you sold the November butterfly, you wouldn't make as much money, but the landing zone of profit is wider.

See PnL below...



This graph depicts AAPL on Thursday with an IV drop. There are two green lines. The higher one would be the weekly curve. The flatter one would be the Nov monthly curve. What you can see is that the weekly gives you more profit but narrows the breakevens. In this case, the graph is not totally accurate, because earnings announcements is after the bell on Thursday, so the Friday curve would be more accurate. Usually, AAPL has earnings announcements on Tuesday, so there is time to get out without competing against the expiration PnL on the weekly. But, because you can only unload the butterfly on Friday (day of expiration on the weekly), this makes the weekly entry less attractive. The flatter green line would be the Nov exp butterfly after earnings. The November butterfly would cost $52.50 + commissions per spread. Maximum loss would be $52.50 + commissions. Maximum profit on Friday would be ~96% return. Breakevens would be about $611 and $694.

These type of timebomb butterflies, I would sell just after earnings. If it went your way, you could hang onto it and ride more profit. Maximum potential profit would be ~1600% at expiration in 24 days. Likely you wouldn't make this amount of money unless AAPL was at $660 that day. The longer you hold it, the greater an exaggerated move would destroy your profit because Gamma would also increase substantially near the wings.

The timebomb butterfly is a great strategy for earnings, because it takes advantage of the IV crush, they are cheap with possibility of a lot of profit, and they are very forgiving.