Everybody wants to catch that giant move in after hours on the ER of the day but there are invisible risks to this when you are holding options, that risk is IV crush. IV will increase as you head into earnings and will drop significantly once earnings has come out this is how options work. If you hold through after hours or pre market and through the announcement then you will be committing to losing a large amount of your positions value to IV crush.
Also something very commonly is that you will be right on the ER revenue and profit but will miss a news announcement or comment on the call that moves it in the other direction. It’s actually easy to predict if a stock will beat or miss estimates, what isn’t easy is predicting the reaction from the market before the ER has even dropped.
For example IBM put on a show today for why holding through after hours is dangerous. Let’s follow the 135 calls for the nearest expiration.
At close before ER the calls were at 2.60
At open after the ER the calls were at 1.11
The stock was actually green at open but the calls were down 60%
This was because of IV crush but it doesn’t end there. The IBM earnings was bullish it just took time for the market to fully adjust to that so at open I pointed it out and started to watch. IBM was red on the day after the first five minutes, it closed up 5.6%. It took time for the momentum to kick in but when you see an ER is looking like it went will but the stock price has yet to react that’s a buying opportunity.
IBM 135s got down to .45 cents at open and at the daily high were 3.62. If you bought before the ER you’d of made ok gains of 50% but if you bought at open and avoided the IV crush and choppy moves you’d of gotten hundreds of percentage gains.
There are times where holding through an ER is a good idea and that’s when you expect it to be a massive move. But on ERs that shouldn’t contain game changing news or are on blue chips and large caps that’s when you really need to avoid holding overnight.
As I type all this MSFT is having an ER and is up 1.8%, if it stays here this will just IV crush those calls so they are break even and I’d bet there’s a chance it ends up running tomorrow but not before giving a buy opportunity in the morning that would be a safer place then having held through the night before.
Basically, play the direction of the reaction to the ER once it’s out, don’t play in anticipation of the reaction to an unknown report. And avoid IV crush.