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Option Trading: Alphabet Inc (NASDAQ:GOOGL) A Clever Short Put Spread Implementation




Alphabet Inc (NASDAQ:GOOGL) : A Clever Short Put Spread Implementation

Date Published:

PREFACE
As we look at Alphabet Inc we note that a short put spread is one of the most common implementations of an option strategy during a bull market, but the analysis completed when employing the short put spread often times lacks the necessary rigor especially surrounding earnings. There is a clever way to reduce risk.

With relative ease we can become experts -- to see the risks we want to take and see those that we want to avoid, which ultimately allows us to optimize our results. This is one of those cases.

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STORY
There is a lot less 'luck' involved in successful option trading than many people have come to understand. We can get specific with short put spreads on GOOGL in this dossier. Let's look at a three-year back-test of a short put spread strategy and use the following easy rules:

* Test monthly options, which means rolling the put spread every 30-days.
* Avoid holding a position during earnings.
* Study an out of the money put spread -- specifically the 30 delta / 10 delta spread.
* Test the put spread looking back at three-years of history.

More than all the numbers, we simply want to walk down a path that demonstrates that it is actually quite easy to optimize our trades with the right tools. In the set up image below we just tap the rules we want to test.



Next we glance at the returns.

RETURNS
If we did this 30 delta / 10 delta short put spread in Alphabet Inc (NASDAQ:GOOGL) over the last three-years but always skipped earnings we get these results:

short 30 Delta / 10 Put Spread
* Trade Frequency: 30 Days
* Back-test length: three-years
* Always Avoid Earnings

Gross Gain: $26,525
Gross Loss: -$19,563
Short Put Spread Return:  58.9
Stock Return:  49.7

Option Out-performance  9.2

First we note that the short put spread strategy actually produced a higher return than the stock 58.9% versus 49.7% or a 9.2% out-performance.

Selling a put spread every 30-days in GOOGL has been a pretty substantial winner over the last three-years returning  58.9%. But there is a surprise we get when we examine short put spreads that were held during earnings. Let's turn to that piece, now.

OPERATING FURTHER WITH ALPHABET INC
That initial move -- examining short put spreads while avoiding earnings is clever. It definitely gets us a study ahead of most casual option traders. But we can move our knowledge yet further.

The next move will implement the same back-test rules and deltas, but this time we will only test results during earnings. To be perfectly clear, we test the short put spread that is opened two-days before earnings, lets earnings occur, and then closes the option position two-days after earnings.



Here are those results for the same 30 delta / 10 delta short put spread:

short 30 Delta / 10 Put Spread
* Trade Frequency: 30 Days
* Back-test length: three-years
* Only Trade Earnings

Gross Gain: $6,550
Gross Loss: -$2,988
Short Put Spread Return:  63.2

Selling a put spread in Alphabet Inc during earnings proved to be a big winner, more importantly, it returned more than the same short put spread that avoided earnings. While this clever use of earnings has outperformed the short put spread that avoided earnings, the question of risk is still in play. Having an option position during earnings is one of the riskiest implementations possible. The point is not that earnings were so strong -- there's a bigger picture here. Let's turn to that piece, now.

CLARITY
For clarity we chart the stock returns, the short put spread (ps) strategy with earnings and the one that avoids earnings, below.


Alphabet Inc Stock
and Short Puts Spreads %



TRADING TRUTHS
The concept here is straight forward, friends: securing knowledge before entering an option position constructs a mind set about what to trade, when to trade it and even if the trade is worth it at all. Now we can see this practice taken further, beyond Alphabet Inc and put spreads.