It's earnings season as corporations report quarterly results along with future guidance. It's also a period when stocks often see big price swings post announcement. It can be an exciting time to trade, but danger lurks when traders hold stocks into an earnings announcement.
On Monday I closed out a long trade in Dean Foods Company (NYSE:DF) at $14.99 a share. I exited the position because the company was scheduled to report earnings the following day. Unfortunately, I lost 0.11 cents on the Dean Foods trade as my entry was $15.10. I know, nobody likes to take losses, but sometimes that is the best move to make ahead of an earnings call. If you take a look at the reaction today in Dean Foods AFTER the earnings were released, it is not pretty. In fact, DF is trading lower by $2.80, to $12.17. Believe it or not, this is a decline of nearly 19.0 percent on the day. And that makes my 0.11 cent loss look like a victory.
To be fair, sometimes stocks can rocket higher after earnings reports. Obviously, traders will celebrate if they hold a stock and are on the right side of the earnings reaction. Just think how I would feel if Dean Foods was trading higher by $3.00 just after I sold it. After trading for so many years I have realized that trading earnings is alot like gambling, the odds are simply not in my favor to make that bet. So I have accepted the fact that holding stocks into earnings is extremely risky and simply not my style of trading.
Exception To The Rule
If you do decide to hold a stock into an earnings announcement, make it a low-beta stock, which is generally a low-volatility equity that historically moves in a small, tight range. Earlier this earnings season I held Bank of America (NYSE:BAC) into earnings. The stock traded down about 0.30 cents before ultimately recovering and making new highs. BAC is a low-beta equity and I was actually in the money on the trade before earnings, so there was not much risk. Either way, holding stocks into earnings is extremely risky, and traders should understand that the odds are no longer in their favor ahead of a corporate earnings report.
