To Trade a Straddle is very Lucrative
Why should you trade a straddle? In trading, there are many trading strategies designed to help traders succeed regardless of whether the market moves up or down. The idea is to make sure a trader is able to profit no matter where the price of the stock, currency or commodity ends up.
One easy option strategy that can accomplish this is called a straddle.
Straddles is a neutral strategy in options trading that involves simultaneously buying of a put and a call of the same underlying stock, striking price and expiration date. You can profit based on how much the underlying moves – regardless of the direction of the price movement. People sell a straddle in order to collect a premium.
In a short straddle, the premium you get for selling the call and the put set up a profit zone extending from the strike, both above and below. The zone covers the same number of points as the premium you received. So if your total premium was 7 and your strike was 75, your profit zone extends from the high of $82 per share, down to $68 – a range of 14 points. If the underlying closes within this range, you earn a profit. Your break even prices, before deducting trading costs, are $82 and $68. If the underlying price moves above $82 or below $68 by expiration, you will have a loss.
The short straddle can avoid exercise on both sides. Either side can be rolled forward if the underlying price moves too far in the money (it will always be ITM on one side or the other). It can also be closed; if time value has evaporated, even an ITM short option might be closed at a small profit. Or, as long as the price is within the profit zone, accepting exercise produces a net profit due to the combined premium income from selling the two options.
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The Short Straddle
The short straddle’s strength is also its drawback. Instead of purchasing a put and a call, a put and a call are sold in order to generate income from the premium. Learn how to setup a wining trade. The thousands that were spent by the put and call buyers actually fill your account. This can be a great boon for any trader. The downside, however, is that when you sell an option you expose yourself to unlimited risk.
As long as the market does not move up or down in price, the short straddle trader is perfectly fine. The optimum profitable scenario involves the erosion of both the time value and the intrinsic value of the put and call options. In the event that the market does pick a direction, the trader not only has to pay for any losses that accrue, but he or she must also give back the premium he has collected. It is important to manage winners.
We choose to trade short straddle so that we sell option premium. The only recourse that short straddle traders have is to buy back the options that they sold when the value justifies doing so. This can occur any time during the life cycle of a trade. If this is not done, the only choice is to hold on until expiration.
If you like this post continue to read When to trade Straddles