Long & Short Straddle Strategy

Purab Kumar -

The Long and Short Straddle strategy is a popular options trading strategy that allows traders to profit from a significant move in the underlying asset’s price, regardless of whether it moves up or down. The strategy involves buying both a call option and a put option at the same strike price and expiration date. This blog will discuss the Long and Short Straddle strategies, their advantages, disadvantages, and examples.

What is a Straddle strategy?

A straddle strategy is an options trading strategy that involves buying both a call option and a put option at the same strike price and expiration date. The strategy is used when the trader expects a significant move in the price of the underlying asset but is unsure about the direction of the move. By buying both a call option and a put option, the trader can profit from a significant move in either direction.

Long Straddle Strategy

The Long Straddle strategy involves buying both a call option and a put option at the same strike price and expiration date. The trader will profit if the price of the underlying asset moves significantly in either direction. The maximum profit that the trader can make is unlimited, while the maximum loss is limited to the premium paid for the options.

Advantages

  • The Long Straddle strategy allows traders to profit from a significant move in the price of the underlying asset, regardless of whether it moves up or down.
  • The strategy has unlimited profit potential, making it attractive to traders who are looking for high-risk, high-reward trades.

Disadvantages

  • The strategy is costly, as the trader needs to buy both a call option and a put option.
  • The strategy requires a significant move in the price of the underlying asset to be profitable, making it a high-risk strategy.

Example

Suppose a trader buys a Long Straddle option for the stock of Tata Consultancy Services (TCS) with a strike price of INR 4000 and an expiration date of May 31, 2023. The trader pays a premium of INR 200 for the call option and INR 150 for the put option, resulting in a total premium of INR 350. If the price of TCS moves significantly in either direction, the trader will make a profit. Suppose the price of TCS increases to INR 4500 by the expiration date. In that case, the trader will exercise the call option and make a profit of INR 150 (INR 4500 - INR 4000 - INR 350). If the price of TCS decreases to INR 3500, the trader will exercise the put option and make a profit of INR 150 (INR 4000 - INR 3500 - INR 350). If the price of TCS remains unchanged, the trader will lose the premium paid for the options.

Short Straddle Strategy

The Short Straddle strategy involves selling both a call option and a put option at the same strike price and expiration date. The trader will profit if the price of the underlying asset remains within a specific range until expiration. The maximum profit that the trader can make is the premium received for the options, while the maximum loss is unlimited.

Advantages

  • The Short Straddle strategy allows traders to profit if the price of the underlying asset remains within a specific range until expiration.
  • The strategy has a limited risk, making it attractive to traders who are looking for low-risk, low-reward trades.

Disadvantages

  • The strategy has unlimited loss potential if the price of the underlying asset moves significantly in either direction.
  • The strategy requires a significant move in the price of the underlying asset to be profitable, making it a high-risk strategy.

Example

Suppose a trader sells a Short Straddle option for the stock of HDFC Bank with a strike price of INR 1500 and an expiration date of June 30, 2023. The trader receives a premium of INR 100 for the call option and INR 120 for the put option, resulting in a total premium of INR 220. If the price of HDFC Bank remains within the range of INR 1280 to INR 1720 until the expiration date, the trader will make a profit of INR 220. If the price of HDFC Bank moves significantly in either direction, the trader will face losses. For instance, if the price of HDFC Bank decreases to INR 1200 by the expiration date, the trader will face a loss of INR 280 (INR 1500 - INR 1200 + INR 220). If the price of HDFC Bank increases to INR 1800, the trader will face a loss of INR 280 (INR 1800 - INR 1500 + INR 220).

Conclusion

The Long and Short Straddle strategies are useful for traders who are looking to profit from a significant move in the price of an underlying asset. The Long Straddle strategy allows traders to profit from a significant move in either direction, while the Short Straddle strategy allows traders to profit if the price of the underlying asset remains within a specific range. However, these strategies are high-risk, and traders must understand the risks involved before investing.

Additionally, the examples mentioned in this blog are based on hypothetical scenarios and are for illustrative purposes only. It is crucial to conduct proper research, analysis, and risk management before making any trading decisions.

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