Straddle
The classical example of an options volatility strategy
Last updated
Was this helpful?
The classical example of an options volatility strategy
Last updated
Was this helpful?
A long (or short) straddle is a particular options strategy where you simultaneously buy (or sell) a call and put with the same strike prices and expiration dates on the same underlying asset.
This strategy involves simultaneously buying both a call and a put with the same strike price and expiration date on the same underlying asset.
A long straddle is used if a trader anticipates a significant price movement but is unsure which direction it will go in. When realized volatility is high, and there are significant movements in the underlying in either direction, long straddles can be profitable. When realized volatility is low, long straddles can result in losses.
The strike price is very close to the current market price of the underlying asset. These options have both intrinsic value and time value if they are in-the-money (ITM), but they only have time value if they are precisely at-the-money (ATM). Because the strike price is close to the market price, there is a higher likelihood compared to OTM options that the option will end up ITM by expiration, which contributes to their higher cost.
Example: Suppose the price of BTC is $20,000 at the moment, and you a expect sharp price movements in the next week, and the premium (cost to buy a contract) for both a call and put is equal to $1,000.
Buy one ATM call option with a strike price of $20,000 (1BTC), paying a $500 premium
Buy one ATM put option with a strike price of $20,000 (1BTC), paying a $500 premium
With the total premium costing $1000, the long straddle on BTC with a strike price of $20,000 would break even at $19,000 or $21,000 on the expiration date. The straddle is profitable once the underlying's price passes either of those breakeven points.
A short straddle is used if a trader anticipates a slight price movement but is unsure which direction it will go in. This strategy involves simultaneously selling both a call and a put with the same strike price and expiration date on the same underlying asset.
When realized volatility for the underlying asset is low, and the price is expected not to move significantly as much, short straddles can be profitable and increase in value. On the flip side, when realized volatility is high, short straddles could lead to losses.
Example: Suppose the price of BTC is $20,000 at the moment, and I expect there to be a slight price movements in the next week, and the total premium received from selling both a call and put is equal to $1,000.
Sell one $20,000 (1BTC) call option earning a $500 premium
Sell one $20,000 (1BTC) put option earning a $500 premium
With the total premium earned of $1000, the short straddle on BTC with a strike price of $20,000 would break even at $19,000 or $21,000 on the expiration date. Therefore, it is unprofitable once the price passes either level and is only profitable if it stays between the breakeven points.
