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When To Trade Long Straddle And Long Strangle


In this article I will discuss when to trade Long Straddle and Long Strangle.

When should we trade Long Straddle and Long Strangle?

When the markets are volatile (very volatile) then Long Straddles and Long Strangles work well.

What is Long Straddle trade?

A Long Straddle is a combination of buying a call and buying a put, both with the same strike price and expiration. Together, they produce a position that should profit if the stock makes a big move either up or down. I have written in details about Long Straddle here that you can read.

What is Long Strangle trade?

The Long Strangle also called as Buy Strangle or Option Strangle, is a neutral strategy wherein slightly OTM (Out of The Money) Put Options and Slightly OTM (Out of The Money) Call Options are bought simultaneously with the same underlying asset and expiry date. Both the lot size of the call and put options bought must be same. I have written in details about Long Strangle here that you can read.

Please note that both Long Straddle and Long Strangle will benefit only if the stock moves a lot in any side. It is very important that when these trades are placed then Vega must increase to negate the theta depreciation.

India VIX is a measure of Vega that you can see here.

What is the problem with Long Straddle and Long Strangle?

The problem comes when the trade is placed near to expiry and the theta depreciates very fast. In that case, even if there is huge volatility the options may lose their premium faster than delta increase. The trader in that case may lose money.

However, if there is enough time left for the expiry and Vega increases – then Long Straddles and Long Strangles will work very well.

But trades get confused to trade between the two. So which one is better?

I suggest that if enough time is left for expiry then go for cheaper options – Long Strangles are better when there are a minimum three days to expiry. They are cheaper because the trader buys OTM (Out of the Money) options.

So what is the con? In a Long Strangle trade, the stock or index needs to make a huge move either side to succeed any time before expiration, not necessarily at the start.

Long Straddle on the other hand comes at a cost as the trader buys ATM (At The Money) options – but the move they need to succeed is less. However, since they are costly it’s advisable to trade them when the expiry is near like one day.

Let me compare Long Straddle vs a Long Strangle on bank nifty.

Here is the current spot of Bank Nifty as on 13-Sep-20 (EOD – Sunday):
22,479.95

Bank Nifty 13-Sep-20

Source: http://www.moneycontrol.com/terminal/index_v1.php?index=23

So the Long Straddle trade for options expiring on 17th-Sep-20 is:

BUY 22500 CE (Call Option) Premium is 355.00
BUY 22500 PE (Put Option) Premium is 294.20

If you are wondering why there is a price difference between the ATM CE and PE then the reason could be that traders are anticipating that Bank Nifty may go up – due to huge demand of the Call option and less demand of the Put options – the prices may differ even if one is slightly in the money and the other is out of the money.

If you look closely then in the above situation the Call option is still Out of The Money (OTM) and the Put option is slightly In The Money (ITM), yet call option is costlier than the put option just because the option sellers are not willing to sell a call option at a lower cost. In the actual marketplace lots of bargain goes on – this bargain leads to the disparity of premium of the call and put options even if they are equidistant from the current stock price.

Today is 15-Sep-20. Here is the current spot of bank nifty as on 15-Sep-20 (11.15 am markets are open – Tuesday):
22,186.05

Bank Nifty 15-Sep-20

Now let me calculate the difference:
22,479.95 – 22,186.05 = 293.90

And the premiums of
22500 CE (Call Option) Premium is 173.00
22500 PE (Put Option) Premium is 457.00

Let’s total to see if the trade is a winner:

355.00+294.20 = 649.20 (As on 13-Sep-20)
173.00+457.00 = 630.00 (As on 15-Sep-20)

So that’s 649.20-630.00 = 19.20 points loss.

For a 300 point move the Long Straddle was not profitable – nevertheless not a huge loss as well. So you can conclude that for a Long Straddle to be profitable minimum 400 points move is required in Bank Nifty index 2 days to start seeing some profit, or there will be a loss.

Now let me check if the trader took Long Strangle on the same day – 13-Sep-20 – to see which one performs better for the same move.

I have made 300 points OTM (Out of The Money) Long Strangle in Bank Nifty. Here is the trade:

(22500 + 300) = 22800 CE: Premium = 213.40 on 13-Sep-20
(22500 – 300) = 22200 PE: Premium = 203.05 on 13-Sep-20

And now currently on 15-Sep-20:

22800 CE: Premium = 104
22200 PE: Premium = 236

Now lets total to find profit or loss:

Note that time and date for the below premiums are when on 15-Sep-20 Bank Nifty was at 22255.00:

213.40 + 203.05 = 416.45
104.00 + 236.00 = 340.00
Loss = 416.45-340.00 = 76.45 points loss

That’s huge loss compared to Long Straddle.

Conclusion:

Just because Long Straddle lost less than Long Strangle – it does not make it a better strategy. If the move is bigger, Long Strangle makes more in percentage terms than Long Straddles. Not to forget that Long Strangle trade setup requires less money than Long Straddles. However everything depends on the move. If the stock moves a lot both will be profitable and if the stock moves less both will make a loss. Long Strangle will make more loss than Long Straddle but on the other side Long Strangle will make more profit than Long Straddle in a huge move.

So why trades lose money trading Long Straddles and Long Strangles?

They lose because they want immediate profit. Please note that it takes some time for the stock or index to move further from where the trade was taken.

What is the best time recommended to wait for a move?

I recommend waiting for 2 trading days before taking off the Long Straddles or Long Strangles.

What is the best time recommended to trade Long Strangle or Long Straddles?

At least 5 days must be left for the expiry. It is suggested not to enter Long Straddles or Long Strangles when only 3 or fewer days are left for the expiry. This is the time when options lose the theta (time) value very fast. Even a good move may not be sufficient to overcome the time lost in the options.

Hope after reading this post you will be able to trade Long Strangle or Long Straddles better. If you have any questions please ask in the comments section.

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September 2019 Is Very Volatile For Stock Markets Be Careful

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