As we enter into another earnings cycle, we have to remind ourselves of some of our risk management methodologies.
Remember, trading, as well as most things in life, is about reward to risk. Risk in and of itself is not a bad thing. In fact, we need to take on risk if we hope to be rewarded in any meaningful way. The important thing is that our reward must be commensurate with the risk we are taking on.
An Example
Let’s take the real life example of my position in Blackstone Group (BX). Per LiveVol: “The Blackstone Group L.P. (Blackstone) is a manager of private capital and provider of financial advisory services. The Company is an independent manager of private capital worldwide, with assets under management of $210.2 billion as of December 31, 2012. Its alternative asset management businesses include the management of private equity funds, real estate funds, funds of hedge funds, credit-oriented funds, collateralized loan obligation (CLO) vehicles and separately managed accounts.”
Blackstone functions much the same as something like a Goldman Sachs (GS) prop desk without all the other businesses they are involved in. Prop desks are doing fantastic presently. My premise was that Blackstone’s prop desk functions at least as well as Goldman’s (perhaps even better). Maybe I could get in before earnings and score a quick hit to the upside. On July 15, I bought a long July 15 call for $0.30. Earnings were released July 17 BMO.
Taking Profits
On Thursday, the market apparently agreed with me as BX opened up about $0.35 and my calls traded about $0.42. So, I put out an exit order to sell at $0.60 to double my money before the earnings were even released. But unlike most of my exit signals, this one was not entered good-til-cancelled (GTC). Why? Because if I didn’t get filled at $0.60 I was perfectly happy to take my signal through the earnings report but I was not willing to cap my profit at just $0.30. I was going to have to be paid more to take on the very real risk of the earnings report. As it turns out, BX opened up big, and my calls exploded. I exited the trade at $0.80 shortly after the open for a return on investment (ROI) of 167%.
Bottom Line?
The reward had to be commensurate with the risk.
