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A long straddle is an options strategy comprised of buying both an ATM call option and an ATM put option with the same strike price and expiration date. It is used when the trader believes the underlying asset will move significantly higher or lower over the options contracts’ lives. The maximum loss is the amount of premium given while buying the options. The maximum profit can be unlimited if the stock moves sharply in either direction. Volatility is the main factor in this strategy. A trader loses if the underlying ends up flat or doesn’t move significantly. Let’s understand this strategy with the marketXLS template.
Below is a screenshot of the complete template that marketXLS provides for this strategy. This template has five major components. Let’s break them down one by one.
Input by user
In this section, you put the stock ticker and the expiry for the option of that underlying. You can select the expiry from section 2. Here, we have taken the example of MSFT (Microsoft Corporation) with an expiry of 19 Feb 2021.
A long straddle involves buying two ATM calls and put at the same strike and expiry. That’s exactly what the template shows—two legs of MSFT at $245 with an expiry of 19 Feb 2021. As a result, a net debit spread of $511 is created, which means you pay upfront to open this trade. This is the maximum loss you would incur in this trade.
Max, min, breakeven
Normally traders calculate this manually based on various possible scenarios or the price of the underlying. The maximum profit is unlimited irrespective of the direction the underlying moves in. However, since a debit spread of $511 is created, the stock should move by around $5 on either side for a trader to at least break even on this trade. As I am writing this article, MSFT is trading at $245. Therefore, the breakeven point should be somewhere around $240 on the bearish side and $250 on the bullish side. Section 5 of the template shows the change in profit concerning the difference in the price of the underlying.
1. The long straddle is a high volatility strategy. It is used when a trader expects the price movement to be maximum. The aim is to see that the stock moves sharply in one direction.
2. The long straddle is a beginner strategy as it doesn’t involve making further adjustments. Execute one call, and one put ATM trades simultaneously and leave it. As simple as that.
3. The profits are unlimited, provided the underlying goes berserk while the loss is limited to the premium paid to the writer.
4. A net debit spread is created to open a trade based on this strategy which means a certain amount is paid upfront in a premium.
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Learn more about long straddle here.