When a company announces an upcoming earnings report, the stock’s price tends to increase due to the expectation of positive results. However, some investors prefer a more conservative approach and will sit out until after the earnings announcement has been made before they purchase shares, betting on negative results instead. It is called a ‘straddle’ or no transaction strategy.
What is a straddle strategy?
According to Investopedia, “Straddling involves simultaneously purchasing call and put options on an underlying asset. A trader can accomplish this with one transaction or two separate transactions (i.e., buying a call option and then buying a put option), depending on what type of position he seeks to create”.
In Hong Kong, an investor can use this type of strategy by making use of options and buying the actual stock. If you believe that a share price will move sharply in one direction following the release of earnings but not the other, you could buy call and put options simultaneously. This allows you to benefit from either movement without actually owning any shares at all.
What is a no transaction strategy?
When you are buying stocks, it is always good to be aware of your strategy based on how you foresee the market breaking out. For example, if the price breaks upwards by ten percent, adopting a no transaction strategy is advisable. This means that you do not buy into or sell off stock even though the prices have changed dramatically. By avoiding transactions, you minimize any losses incurred and maximize your profit.
A no transaction strategy works best when there is an economic downturn and an increase in unemployment rates. This usually signals reduced consumer spending, which may cause reduced demand for specific products. When unemployment rates rise, companies often lay off staff or cut back their workforce leading to reduced demand for goods and services, which may cause a company to downsize or shut down completely.
When this happens, the prices of stocks in these industries may significantly plunge, which is why it is advised not to sell off your shares even during times of economic hardship. Since you are avoiding transactions, you will be incurring only minimal losses instead of losing huge sums if you have decided on a different strategy. In fact, by holding onto your stocks for an extended period, you could end up making a huge amount from one transaction when economic conditions improve and investors start retaking an interest.
Benefits of using a straddle or no transaction strategy
Using these strategies can be beneficial because you won’t have to worry about missing out on a share price increase if the company beats expectations. You’ll also benefit from a decrease in shares. If your guess is incorrect, though, and there’s only one way the stock will move following earnings, you risk much more by not being invested at all.
Other benefits of this trading method include reduced commission charges on both purchases and sales of contracts resulting in high profitability rates. The straddle and no transaction strategy also allows one to trade using low margin amounts that work best in volatile markets with plenty of opportunities.
Straddles are easy to manage by both beginners and veterans alike. Beginners may find this helpful when learning how to trade futures. At the same time, professionals can use them as an additional tool for hedging risks associated with other positions they hold at any point in time.
When it comes down to it, this strategy is definitely for those willing to take on many risks as the rewards aren’t as high as they might seem.
Today, many traders use advanced strategies such as straddle strategies to buy low and sell high, but is that always possible? Due diligence is one of the most important things to remember with any options trading strategy. If you want to learn more about trading strategies, contact a reputable online broker from Saxo Bank, and start your investment journey today.