InvestorQ : What is a Straddle strategy and when can I buy a straddle?
Priyanka Jain made post

What is a Straddle strategy and when can I buy a straddle?

Answer
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Swati Naik answered.
2 years ago


When you are bullish on the market you can buy a call and when you are bearish on the market you can buy a put option. But what do you do when you are not sure of the direction of the market? Let us say that you are expecting Infosys to display volatile price movements but you are not sure if the price will move up or whether it will move down. If you are extreme volatility in the stock then you can buy a call and a put on the same strike price of the stock. That way, once your option cost is covered, you can make profits on the upside and the downside. You are expecting volatility in RIL and hence you have bought 1100 Dec call at Rs.36 and 1100 Dec put at Rs.42. How exactly do the payoffs work in this case?

Long Call Strike

RIL CMP

Diff

ITM/OTM

Call Premium

P&L on Call

Call Profit

Long Put Strike

RIL CMP

Diff

ITM/OTM

Put Premium

P&L on Put

Put Profit

Total Profit

1100

900

-200

OTM

-36

0

-36

1100

900

200

ITM

-42

200

158

122

1100

920

-180

OTM

-36

0

-36

1100

920

180

ITM

-42

180

138

102

1100

940

-160

OTM

-36

0

-36

1100

940

160

ITM

-42

160

118

82

1100

960

-140

OTM

-36

0

-36

1100

960

140

ITM

-42

140

98

62

1100

980

-120

OTM

-36

0

-36

1100

980

120

ITM

-42

120

78

42

1100

1000

-100

OTM

-36

0

-36

1100

1000

100

ITM

-42

100

58

22

1100

1020

-80

OTM

-36

0

-36

1100

1020

80

ITM

-42

80

38

2

1100

1040

-60

OTM

-36

0

-36

1100

1040

60

ITM

-42

60

18

-18

1100

1060

-40

OTM

-36

0

-36

1100

1060

40

ITM

-42

40

-2

-38

1100

1080

-20

OTM

-36

0

-36

1100

1080

20

ITM

-42

20

-22

-58

1100

1100

0

ATM

-36

0

-36

1100

1100

0

ATM

-42

0

-42

-78

1100

1120

20

ITM

-36

20

-16

1100

1120

-20

OTM

-42

0

-42

-58

1100

1140

40

ITM

-36

40

4

1100

1140

-40

OTM

-42

0

-42

-38

1100

1160

60

ITM

-36

60

24

1100

1160

-60

OTM

-42

0

-42

-18

1100

1180

80

ITM

-36

80

44

1100

1180

-80

OTM

-42

0

-42

2

1100

1200

100

ITM

-36

100

64

1100

1200

-100

OTM

-42

0

-42

22

1100

1220

120

ITM

-36

120

84

1100

1220

-120

OTM

-42

0

-42

42

1100

1240

140

ITM

-36

140

104

1100

1240

-140

OTM

-42

0

-42

62

1100

1260

160

ITM

-36

160

124

1100

1260

-160

OTM

-42

0

-42

82

1100

1280

180

ITM

-36

180

144

1100

1280

-180

OTM

-42

0

-42

102

1100

1300

200

ITM

-36

200

164

1100

1300

-200

OTM

-42

0

-42

122

This straddle is a typically volatile strategy which only works when the markets are very volatile either ways because you need to cover the premium cost of the put and the call. The maximum loss as can be seen in the above chart will be Rs.78 and it will occur at the strike in which the straddle is created which is 1100 in this case. The breakeven point on the downside will be 1022 (1100 – 78) while on the upside the breakeven level will be 1178 (1100 + 78). As long as the RIL price stays within this range, you will lose money on the long straddle. The moment the price goes outside this range, you start gaining on the straddle.