It’s amazing what can happen in just a few weeks.
For the two months ending in July, the market climbed 12% – one of its best starts to summer on record. During that time, the news was largely focused on how cyclicals, financials, and tech stocks were all leading the market to new year-to-date highs…
…and then that all came to a crashing halt about two weeks ago.
So, what the heck happened to spark this big pullback?
It all started when Fitch downgraded the U.S. debt from AAA to AA+, citing “a steady deterioration in standards of governance”…
Then we had a number of companies issue not-so-stellar future guidance…
And then all that was followed by an encore appearance from Fitch, as the credit firm downgraded the banking sector (and this time not just the regionals, but even big names such as JP Morgan)…
In a world where downgrades are now on the tips of the tongues of credit analysts… are there any bullish opportunities left in this earnings cycle?
My data says yes, and I’ll show you five bullish trades you can make to play it.
My Data Says Bullish Plays Are Hiding Somewhere No One Is Looking
When you look at that 90-day chart at the top of this article, it certainly smells like a big pullback… but this move actually only represents a 3% pullback from the most recent highs.
And none of this should come as a big surprise. As we discussed on the Power Profit Strategies podcast, August is a toss-up month seasonally. Over the past 10 years, August has largely seen a mix of bullish and bearish days for the most popular stocks.
So, where should we look to find the stocks with the most likelihood of moving higher, with the least amount of risk? Let’s look somewhere everyone has brushed aside…
The remainder of earnings season.
I am a big believer in following the patterns, and I’m seeing some really interesting things hitting my radar right now.
Let’s start with a tech giant that reports on the backside of the earnings cycle… Oracle (ORCL).
Now I could sit here and dazzle you with product announcements, revenue and earnings growth, even some fundamental analysis, but I will leave that to the long-term investors. I am merely spotting a short-term pattern with this stock. Check this out:
I know it might be hard to see, but for the past four quarters, traders have driven up the price of ORCL around 5 points BEFORE earnings are even announced. What happens after earnings is interesting as well. Even though Oracle has reported better-than-expected earnings in each of the past four quarters, the price action afterward was a toss up – sometimes it moved higher, sometimes lower.
So where is the consistency with this stock? Well, when it comes to patterns, the consistency is before earnings. If the average move a week prior to earnings was around 5 points, this represents a stock move of 6% give or take. What I mean is that the stock buyer had an average 6% profit buying the stock a week before earnings and selling it the day of earnings, making sure they were out of the stock prior to the report.
Not a bad profit in a short time, but you still had to carry the stock for a week or so. Fortunately, there’s an alternative strategy we can use instead of position trading the stock.
The below chart shows the implied volatility for ORCL options. Same time frame, same earnings… but look at the swings of options premium in volatility!
Buying call options a week or so prior to earnings and selling right before the report looks like the right way to trade this pattern.
So if we had done that over the past four earnings cycles, how would buying the short-term near-the-money call options have fared?
Pretty well! ORCL is FOUR for FOUR when it comes to buying call options and selling them a week later. Just look at the returns on the far right of the table above – the most recent pattern saw a 378% rise in the June 109 Calls, starting at $2.08 and ending at $9.95. Impressive!
So with Oracle, the idea would be to either buy the stock or near money options a week before the upcoming earnings report (next is scheduled for Sept 11). And due to the toss-up nature of the post-earnings price action, we obviously want to close this trade out – win, lose, or draw – before the earnings report.
So what else is on my watchlist for the rest of summer?
Above is a list of my top bullish earnings picks heading into September. This list includes Lowe’s (LOW), which has a 100% accuracy over the past year and an average ROI on the options near 120%. Zscaler (ZS), Marvell (MRVL), and Salesforce (CRM) round out the top five, though they only have a 3/4 win rate over the year.
Remember, a plan is always better than none at all, even when it comes to earnings.
To your continued success,
Tom Gentile
Source: Money Morning