Betting On A Stock That Plummeted Post-Earnings: Trying To Avoid Repeating Two Big Mistakes

The Risk Of Buying After A Post-Earnings Drop

Everyone likes a bargain, so it’s tempting to bet on a once high-flying stock when it drops post-earnings. We did that with two stocks in the first quarter, Snowflake, Inc. SNOW and Lululemon Athletica, Inc. LULU. Both posted double beats (on earnings and revenues), and both tanked after earnings: LULU by 16%, and SNOW by about 18%. We placed bullish options bets on both of them set to expire after their earnings this quarter.

Both of those options trades are going to expire worthless this Friday, even though one of those stocks (LULU) posted another double beat this month. Why?

In hindsight, we made two mistakes there:

• We placed our post-earnings trades immediately, without waiting for prices to consolidate. Though the stocks were down double-digits post earnings, they kept sliding. LULU is now down 36% from the day it posted its earnings in the 1st quarter, and SNOW is down about 46%.
• We didn’t pay enough attention to valuation. Even after those steep drops, LULU today has an overall valuation rating of 3 (on a scale of 0 to 10) according to Chartmill, and SNOW has an overall valuation rating of 0 (Chartmill’s overall valuation rating takes into account price/earnings, forward P/E, and other valuation metrics).

What We’re Doing Differently Today

The stock we’re betting on today is another former high-flyer that plummeted post-earnings, dropping about 20% after beating on earnings but slightly missing on revenues. This time, though, we did a few things differently:

• We didn’t bet on it right after earnings, which were last month. We waited for prices to consolidate a bit. We’re not getting in at the post-earnings bottom, but the stock is still down about 15% from were it was pre-earnings. And we know now that its post-earnings plunge wasn’t the start of an extended slide, as with LULU and SNOW.
• We paid attention to valuation. This stock had an overall valuation rating of 4 pre-earnings, according to Chartmill, and after that drop it has an overall valuation rating of 6. Its other fundamentals are strong too: a profitability rating of 8, a health rating of 7, a growth rating of 8 (all on a scale of 0-10), and a Piotroski F-Score of 9 (on a scale of 0-9).
• We waited to get the options prices we wanted, placing a limit order that took over a week to fill.

Our options trade today is a bet that this stock will erase half of its current 15% post-earnings drop after it releases earnings next quarter. If we’re wrong, our maximum loss on this trade will be 100%, and if we’re right, our maximum gain will be about 200%.

Read the rest here. 

If you'd like to stay in touch

You can scan for optimal hedges for individual securities, find our current top ten names, and create hedged portfolios on our website. You can also follow Portfolio Armor on X here, or become a free subscriber to our trading Substack using the link below (we're using that for our occasional emails now).

This article is from an unpaid external contributor. It does not represent Benzinga's reporting and has not been edited for content or accuracy.