I’m Thanking Elon Musk For Today’s Trade
It’s earnings season, and that means the “earnings game” is underway.
I described how the game is played in this piece. But to reiterate, we can think of this as a game that’s split into two halves of about three months each.
In the first half of the game, analysts speak to management teams to come up with estimates for the quarter. As we move closer to the reports, analysts revise their earnings forecasts. Generally, they revise estimates downward after these discussions.
In sports terms, if this was a hurdle race, they would be lowering the bar. At the beginning of the quarter, the bar is about waist high. By the end of the quarter, the bar is just above the ankles.
In the second half of the earnings game, companies report earnings. Many of them beat expectations — on average about 74% of those reporting in a quarter. When the stock inevitably clears the low hurdle, the shares jump on the news.
Right now, it’s early in the second half of the earnings game. As of last week, according to FactSet, 13% of the companies in the S&P 500 have reported results for the fourth quarter of 2020.
Of these companies, 86% beat expectations. On average, earnings per share (EPS) were 22.4% above the estimates, which is above the five-year average of 6.3%.
Despite the surge of better-than-expected results, EPS are still expected to be down about 4.7% compared to the same quarter in 2019. This indicates there is still a great deal of risk in the markets.
As a general rule, I recommend avoiding trades in companies the day they report earnings. That’s especially true right now. As I commented recently, I think this rally may be near a top.
How I’m Trading Right Now
With that being said, we can still make successful trades in this market. We just need to be selective in how we do it.
For example, I recently recommended a trade in the online craft retailer Etsy, Inc. (NASDAQ: ETSY). The company reports earnings the last week of February. I’m recommending an option that expires before then.
ETSY has staged an impressive rally since bottoming out last March in the middle of the Covid-fueled selloff. But the stock attracted increased attention early this week when Elon Musk tweeted that he loved the company.
Believe it or not, that put the stock on the radar of a lot of retail investors, who pushed the stock up higher.
And while I wouldn’t recommend that you chase this trade simply on Musk’s word alone, here’s the interesting thing… It also created an compelling trading opportunity with a high margin of safety. That’s because instead of following the herd, we can actually profit from it.
Allow me to explain…
If you take a look at the chart below, you’ll see there is significant support at $155. That’s the point where the recent extremely rapid move began two months ago.
Now, here’s where things get interesting. There is risk in ETSY, and I am not recommending the stock for the long term. So rather than simply buy the stock, I recommended selling put options at a strike price that’s even lower than that to minimize risk even further.
Our trade essentially amounts to a high-probability, high-income opportunity. Thanks to the power of our strategy, my subscribers and I will profit as long as ETSY doesn’t fall more than 25% in the next three weeks.
As with all of our other trades, we’ll watch this one closely.
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