Earnings Infocus | 4 options strategies to consider ahead of Tesla earnings

Volatility surge: Earnings announcements typically increase implied volatility (IV) in the options market due to the uncertainty about the results and subsequent price movement.

Price movement: The stock price can rise or fall significantly based on the earnings results and future guidance.

According to data from Market Chameleon, Tesla's stock has a historical tendency to decline on earnings release days. Over the past 12 quarters, the stock has dropped about 58% of the time on the day earnings were announced. The average price movement on these days has been ±8.4%, with the largest one-day decline at -12.1% and the largest gain at +12.1%. Currently, the options market is implying a one-day move of ±9.8% following the earnings release. This implied move is lower than the average post-earnings price change of ±10.8% observed over the last four quarters. This discrepancy suggests that the current options market might be undervaluing the potential volatility of Tesla's stock in response to its earnings report.

Tesla's current valuation is notably high, with a forward P/E ratio for 2024 reaching around 100 times. As of now, the stock trades around $250. The recent surge is largely driven by event-based factors and AI valuation expectations rather than fundamental performance improvements. Given the elevated valuation, the risk of a correction is substantial if Tesla's earnings or guidance misses market expectations. The broader uncertainty in this earnings season, characterized by mixed reactions to financial results, further complicates the outlook. Investors holding Tesla shares may consider hedging their positions using option strategies.

When to use: If you anticipate a significant increase in Tesla's stock price.

How it works: A long call involves buying a call option, which gives you the right to purchase the stock at a specified strike price before the option expires. This strategy allows you to benefit from a potential rise in the stock price while limiting your risk to the premium paid for the call option.

Example: Buy a call option with a strike price above the current market price. If Tesla’s price rises above the strike price before the option expires, you can exercise the option to buy at the strike price and sell at the market price, making a profit. If the stock doesn’t rise above the strike price, your loss is limited to the premium paid.

Risk reminder: The risk is limited to the premium paid for the call option.

When to use: If you anticipate a significant decline in Tesla's stock price.

How it works: A long put involves buying a put option, which gives you the right to sell the stock at a specified strike price before the option expires. This strategy allows you to benefit from a potential drop in the stock price while limiting your risk to the premium paid for the put option.

Example: Buy a put option with a strike price below the current market price. If Tesla’s price falls below the strike price before the option expires, you can exercise the option to sell at the strike price, making a profit. If the stock doesn’t fall below the strike price, your loss is limited to the premium paid.

Risk reminder: The risk is limited to the premium paid for the put option.

When to use: If you own Tesla shares and expect the stock to move moderately or stay relatively stable.

How it works: A covered call involves holding a long position in the underlying stock (Tesla) while selling a call option on the same stock. This strategy is suitable for investors who own Tesla shares and want to generate additional income.

Example: Suppose you own 100 shares of Tesla. You could sell a call option with a strike price slightly above the current market price. If Tesla’s price increases to the strike price, you may have to sell your shares at that price, but you keep the premium received from selling the call.

Risk reminder: The risk includes potentially having to sell your shares at the strike price, which might be lower than the future market price.

When to use: If you are interested in purchasing Tesla shares at a lower price and want to earn a premium in the meantime.

How it works: A cash-secured put involves selling a put option while holding enough cash to buy the stock if it falls to the strike price. This strategy is ideal for investors who are willing to buy Tesla shares at a lower price.

Example: Sell a put option with a strike price below the current market price. If Tesla’s price drops to or below the strike price, you will buy the shares at that price, but you also keep the premium received from selling the put.

Risk reminder: The risk involves having to buy the stock at the strike price, which might be higher than the market price at expiration.

Earnings risk: Understand that earnings can lead to unexpected results. Even if the earnings beat expectations, the stock price might react negatively due to other factors like future guidance.

Volatility crush: Post-earnings, implied volatility typically drops sharply (volatility crush), which can erode the value of options premiums.

Capital allocation: Ensure you allocate only a portion of your portfolio to options trading, especially when starting out, to manage overall investment risk.

Time decay: Options lose value as they approach expiration. Ensure you choose an expiration date that allows enough time for the anticipated stock movement.