BorgWarner Inc (NYSE:BWA) : Trading Earnings Optimism With Options
Date Published: 2018-11-7
DisclaimerThe results here are provided for general informational purposes, as a convenience to the readers. The materials are not a substitute for obtaining professional advice from a qualified person, firm or corporation.
PrefaceThere is a powerful pattern of optimism and momentum in BorgWarner Inc (NYSE:BWA) stock right before of earnings, and we can capture that pattern by looking at returns in the option market. The strategy won't work forever, and in fact, it hasn't even won more often than it has lost, but since this strategy has a celever risk control, the winning trades are so much larger than the losing trades, that it has returned 230% annualized returns.
PREMISEThe premise is simple -- one of the least recognized but most important phenomena surrounding this bull market is the amount of optimism, or upward momentum, that sets in the two-weeks before an earnings announcement. Now we can see it in BorgWarner Inc.
The Options Optimism Trade Before Earnings in BorgWarner IncLet's look at the results of buying a monthly call option in BorgWarner Inc two-weeks before earnings (using calendar days) and selling the call before the earnings announcement.
Here's the set-up in great clarity; again, note that the trade closes before earnings, so this trade does not make a bet on the earnings result.
Now, unlike many of our other set-ups, this is in fact a straight down the middle bullish bet -- this absolutely takes on directional stock risk, so let's be conscious of that before we see the results, because they are mind bending.
Here are the results over the last three-years in BorgWarner Inc:
The mechanics of the TradeMachine® are that it uses end of day prices for every back-test entry and exit (every trigger).
We see a 105.7% return, testing this over the last 12 earnings dates in BorgWarner Inc. That's a total of just 168 days (14 days for each earnings date, over 12 earnings dates). That's an annualized rate of 230%. That's the power of following the trend of optimism into earnings -- and never even worrying about the actual earnings result.
We can also see that this strategy hasn't been a winner all the time, rather it has won 6 times and lost 6 times, for a 50% win-rate and again, that 105.7% return in less than six-full months of trading.
Setting ExpectationsWhile this strategy had an overall return of 105.7%, the trade details keep us in bounds with expectations:
➡ The average percent return per trade was 13.74%.
WHAT HAPPENEDThe personality of this bull market is one that shows optimism before earnings -- irrespective of the actual earnings result. That has been a tradable phenomenon in BorgWarner Inc.
Please note that the executions and other statistics in this article are hypothetical, and do not reflect the impact, if any, of certain market factors such as liquidity and slippage.