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Long Straddle (Buy Straddle) Options Trading Strategy Explained

Published on 4/19/2018 1:21:07 AM

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Long Straddle (Buy Straddle)
Long Straddle (Buy Straddle) Options Strategy
Strategy LevelBeginners
Instruments TradedCall + Put
Number of Positions2
Market ViewNeutral
Risk ProfileLimited
Reward ProfileUnlimited
Breakeven Point2 break-even points

The Long Straddle (or Buy Straddle) is a neutral strategy. This strategy involves simultaneously buying a call and a put option of the same underlying asset, same strike price and same expire date.

A Long Straddle strategy is used in case of highly volatile market scenarios wherein you expect a big movement in the price of the underlying but are not sure of the direction. Such scenarios arise when company declare results, budget, war-like situation etc.

This is an unlimited profit and limited risk strategy. The profit earns in this strategy is unlimited. Higher volatility results in higher profits. The maximum loss is limited to the net premium paid. The max loss occurs when underlying asset price on expire remains at the strike price.

The usual Long Straddle Strategy looks like as below for NIFTY current index value at 10400 (NIFTY Spot Price):

Options Strangle Orders
OrdersNIFTY Strike Price
But 1 Put OptionNIFTY18APR10400PE
Buy 1 Call OptionNIFTY18APR10400CE

Suppose Nifty is currently at 10400 and due to some upcoming events you expect the price to move sharply but are unsure about the direction. In such a scenario, you can execute long strangle strategy by buying Nifty Put at 10400 and buying Nifty Call at 10400. The net premium paid will be your maximum loss while the profit will depend on how high or low the index moves.

When to use Long Straddle (Buy Straddle) strategy?

The strategy is perfect to use when there is market volatility expected due to results, elections, budget, policy change, war etc.

Example

Example 1 - Stock Options:

Let's take a simple example of a stock trading at ₹40 (spot price) in June. The option contracts for this stock are available at the premium of:

  • July 40 Put - ₹2
  • July 40 Call - ₹2

Lot size: 100 shares in 1 lot

  1. Buy 'July 40 Put': 100*1 = 200
  2. Buy 'July 40 Call': 100*1 = 200

Net Debit: ₹200 + ₹200 = ₹400

Now let's discuss the possible scenarios:

Scenario 1: Stock price remains unchanged at ₹40

  • July 40 Put - Expires worthless
  • July 40 Call - Expires worthless
  • Net Debit was ₹400 initially paid to take the position.
  • Total Loss = ₹400

The total loss of ₹400 is also the maximum loss in this strategy.

Scenario 2: Stock price goes above ₹50

  • July 40 Put - Expires worthless
  • July 40 Call Expires in-the-money with an intrinsic value of (50-40)*100 = ₹1000
  • Net Debit was ₹400 initially paid to take the position.
  • Total Profit = ₹1000 - ₹400 = ₹600

Scenario 3: Stock price goes down to ₹30

  • July 40 Put Expires in-the-money with an intrinsic value of (40-30)*100 = ₹1000
  • July 40 Call - Expires worthless
  • Net Debit was ₹400 initially paid to take the position.
  • Total Profit = ₹1000 - ₹400 = ₹600

Example 2 - Bank Nifty

Long Straddle Example Bank Nifty
Bank Nifty Spot Price8900
Bank Nifty Lot Size25
Long Straddle Options Strategy
Strike Price(₹)Premium(₹)Total Premium Paid(₹)
(Premium * lot size 25)
Buy 1 Call90001002500
Buy 1 Put90002005000
Net Premium (200+100)3007500
Upper Breakeven(₹)Strike price of Call + Net Premium
(9000 + 300)
9300
Lower Breakeven(₹)Strike price of put - Net Premium
(9000 - 300)
8700
Maximum Possible Loss (₹)Net Premium Paid7500
Maximum Possible Profit (₹)Unlimited
On Expiry Bank NIFTY closes atNet Payoff from 1 Call bought (₹) @9000Net Payoff from 1 Put Bought (₹) @9000Net Payoff (₹)
8300-25001250010000
8500-250075005000
8700-250025000
9000-2500-5000-7500
93005000-50000
960012500-50007500
1000022500-500017500

Market View - Neutral

When you are not sure on the direction the underlying would move but are expecting the rise in its volatility.

Actions

  • Buy Call Option
  • Buy Put Option

Breakeven Point

2 break-even points

A straddle has two break-even points.

Lower Breakeven = Strike Price of Put - Net Premium

Upper breakeven = Strike Price of Call + Net Premium

Risk Profile of Long Straddle (Buy Straddle)

Limited

The maximum loss for long straddle strategy is limited to the net premium paid. It happens the price of underlying is equal to strike price of options.

Maximum Loss = Net Premium Paid

Reward Profile of Long Straddle (Buy Straddle)

Unlimited

There is unlimited profit opportunity in this strategy irrespective of the direction of the underlying. Profit occurs when the price of the underlying is greater than strike price of long Put or lesser than strike price of long Call.

Max Profit Scenario of Long Straddle (Buy Straddle)

Max profit is achieved when at one option is exercised.

Max Loss Scenario of Long Straddle (Buy Straddle)

When both options are not exercised. This happens when underlying asset price on expire remains at the strike price.

Advantage of Long Straddle (Buy Straddle)

Earns you unlimited profit in a volatile market while minimizing the loss.

Disadvantage of Long Straddle (Buy Straddle)

The price change has to be bigger to make good profits.

How to exit?

  • Sell the Call Options
  • Sell the Put Options

Simillar Strategies

Long Strangle, Short Straddle

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