Straddle and Strangle option strategies involve buying or selling call and put options at the same time, making them popular among traders to capitalize on market volatility and benefit from sudden price movements.
What is Straddle & Strangle Options Strategy?
The long straddle and the option straddle are two popular strategies used to profit from significant stock price movements.
While both involve the purchase of call and put options on the same security with the same expiration date, they differ in the required price movement and implementation costs.
Long straddles are usually more expensive to implement, but require less price movement to generate a profit, while stranglers require more movement to make a profit.
On the other hand, short straddles and stranglers can be used to benefit from stable prices.
What is the Difference Between Straddles and Strangles?
Straddles & strangles strategy is used among professional traders to profit from volatile market. The key difference between the two lies in the exercise price of the respective options.
A straddle strategy involves buying both call and put options on the same security with the same expiration date and strike price. In contrast, the strangle strategy is the same as the straddle strategy, but here when buying call and put options on the same security with the same expiration, the strike price will be different.
While these strategies allow traders to make profits from significant stock price movements, the straddle strategy is more capital extensive but requires less price movement to make a profit, while the strangle strategy is cheaper to implement and requires more price movement to make a profit.
Traders use these strategies to hedge their positions or take advantage of sudden price swings. It is important to note that both strategies have their own risks and rewards, and traders must keep in mind their individual goals and risk tolerance before implementing either strategy.
long straddles and strangles help traders make a profit when prices are volatile, while short straddles and strangles can make money when prices remain stable or don’t change much. However, all these strategies have a degree of risk.
Main Factors to Consider when using Straddles and Strangles
- Market volatility levels
- Cost of implementation
- Expiration date of the options
- Price movement required for profitability
- Overall risk-reward profile
- Alignment with trading objectives and risk tolerance
Example of Straddles and Strangles Strike Prices
Let’s say a trader believes that ABC’s share price will experience significant volatility in the coming weeks. A trader decides to use a straddle strategy and buys a call option and a put option on ABC stock with a strike price of ₹ 500 and an expiry date of one month.
If the price of the ABC share rises above ₹500, the trader can exercise a call option to buy the share at a lower strike price and then sell it at a higher market price, making a profit. Similarly, if the share price falls below ₹ 500, the trader can exercise a put option to sell the share at a higher strike price and then buy it back at a lower market price, thereby also making a profit.
Now when it comes to strangle strategy. A trader buys call option with a strike price of ₹ 550 and put option with a strike price of ₹ 545, both of which expire in one month. If the price of the ABC share rises above ₹550, the trader can exercise a call option to buy the share at a lower strike price and sell it at a higher market price. If the price falls below ₹545, the trader can use the put option to sell the stock at a higher strike price and back to buy at a lower market price.
Implementation Cost
Implementation of straddles usually requires higher costs compared to strangles because it involves buying at-the-money options where the strike price is the same as the price of the underlying stock. This is because at-the-money options are generally more expensive than options with different strike prices, which are used in throttling strategies.
Which one to choose?
Both Straddles and Strangles are usually considered independent of the direction of stock price movement. Instead, they only focus on changes in the size of stock prices, or the lack thereof. However, by buying or selling options at different strike prices, puts allow traders to add directional bias if they believe the stock is more likely to move in a certain direction.
For example, if a stock is trading at ₹500 and the trader believes the value is more likely to go up than down, he might buy a call with a strike price of ₹550 and buy a put with a strike price of ₹442. In this scenario, the trader will earn more from a stock price increase than from a stock price decline of the same size.
Risk Involved
Long straddle and Strangle strategies involve the risk that the option will expire worthless if the stock price does not move significantly.
Short straddle and Strangle strategies have unlimited risk where the trader could face significant losses if the stock price moves sharply.
This is because it is the sale of options, which give the buyer the right to buy or sell a stock at a certain price.
Short cuts have less risk than short straddles because the strike prices are further apart, but they still carry significant risk, especially in volatile markets or unpredictable stocks.
Conclusion
- Straddles and Strangles are options strategies that involve buying or selling call and put options on the same stock with different strike prices and expiration dates.
- Straddles are more expensive to implement than Strangles because they involve buying options at the money.
- Both strategies are directionally neutral, that is, they do not depend on the direction in which stock prices move, but only on the magnitude of stock price changes, or lack thereof.
- by buying or selling options with different strike prices. Strangles can be use with directional bias.
- The risk in long straddle and strangle strategies is mainly represent by the costs of the options themselves, but there is unlimited risk in short straddle and strangle strategies.
