Friday, May 10, 2013

Trading before an Event

One of our readers purchased PUT options in Infosys just before the Q4 results were announced. After results, Infosys fell almost 20% giving large profits on the PUTs purchased. Our reader is a wise trader. He has questions on the trade. Here is his email:

Quote

Sir,
I was lucky that
1. I got a sell signal on Tuesday and took the trade.
2. My stops did not get hit in the rise of Wednesday and Thursday
3. I benefited from the fall on Friday
Having said that, given the volatility of Friday, it was a high risk trade and could quite easily have gone the other way.
Under these circumstances, the three options I have going forward is,
1. Do not trade high volatlity events at all
2. Trade the event, but only by buying call or put options hence limiting downside risk but paying high IV in premiums, or
3. Continue trusting my signals, and trade them with futures, and expect that, over time, the percentages would work out in my favour.
I am still in favour of option no 3. From a trade management perspective, is this sound thinking ?

UnQuote

My Notes:

I do not trade news events. But if you do trade them, then option 3 – trade with futures is the best way, since call and put options command large premiums which inevitably drop after the event. The important point is consistency. You have to take all your signals, to enable probability to work in your favour. The mechanical  systems that we run, ignore news events, continue to trade just as in option 3 above. We expect that the negative impact will be balanced out by the  positive impact over a long period, giving us a net positive edge,

1 comment:

Ssaameer Sunil Limaye said...

Sudarshanbhai,

In my personal humble opinion, option 2 (buying options) is far better strategy. I have myself personally fallen prey to such major events / result reactions in the past. Now I do not trade major events or make it a point to hedge my positional trades (if I have them open) on such days.

The problem arises when suddently after the event / result the stock / index shows a gap down or a gap up trade. When using futures it could be extremely extremely dangerous. To share my experience couple of quarters back when markets use to take IIP numbers seriously, I had long trades in Nifty Futures. IIP numbers did disappoint the markets in a big way for whatever reasons. Nifty futures suddenly did show a trade of 110 points (negative). Remember I was long. Markets did not give me any opportunity for my stop loss to work. Nifty plunged about 50 points below my stop loss in seconds. Thankfully, I was trading quarter of my usual size. Else it would have been a disaster.

Therefore, to conclude in my personal, humble opinion if atall one wishes to trade such events / results, options should be the only way. They help you manage your risks better. If one doesn't trade such an event he / she has nothing to lose!