Until now, you have had lessons in Calls and Puts. When you combine trading a Call and a Put together, you are trading an options strategy.
An options strategy is when you execute more than one option at the same time; buying and selling Calls and Puts in different combinations to take advantage of market moves in many different ways.
This lesson will focus on a specific strategy, a Long Straddle.
The long straddle is commonly used over news announcements and major economic events to trade an increase in volatility. WTI Oil is known for its market volatility (even without news announcements), thus you buy a Call and Put together in a strategy with the expectation that volatility will increase.
To execute this strategy, you buy a Put and Call at the same time with the same strike, expiry, and amount. This results in a profit if the market moves in either direction beyond the premium paid for both options; the Put option will bring a profit if the market falls and the Call option will bring a profit if the market rises.
WTI OIL Long Straddle example:
The above image is an at-the-money WTI OIL Long Straddle where both the Call and Put are set with strike rates equal to the underlying market (0%) at execution. The strike rates do not have to be at 0%, but they do have to be the same.
The chart below shows the strategies’ profit or loss at expiry over a range of market rates. The dotted grey line highlights when profit/loss equals zero (the break-even point). Anything above the grey line is a profit and anything below it is a loss. The letter 'A' indicates the strike rate. If the market moves far enough in either direction past the break-even points, the strategy is profitable. But if the market rate does not break-out in either direction, the strategy creates a loss. This ‘V’ shaped chart is a classic Long Straddle strategy.
Advantage:
- Your maximum loss is limited to the premium paid at open
- You will not get stopped-out
- You can profit from a move in either direction.
Disadvantages:
- It involves a higher premium cost compared with trading in one direction because you are buying two options
- As time passes and the options get closer to expiry, time value is against you since both legs are decaying
Below is an actual scenario chart and table from the ORE Web-platform, optionsReasy. It shows the payout from a long straddle in WTI Oil, you can see you will profit as long as the market moves in either direction:
The chart below shows the strategies present payout (before expiry). Notice how the payout is higher than the payout at expiry. When you buy an option, or multiple options, you ideally want the market to move sooner, so you can cash-in before expiry and not suffer time decay.
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Editors’ Picks
EUR/USD remains depressed below mid-1.1800s; downside potential seems limited
The EUR/USD pair attracts some sellers for the second consecutive day on Tuesday and hovers below mid-1.1800s amid a relatively quiet trading action during the Asian session. The broader fundamental backdrop, however, warrants some caution for bearish traders before positioning for deeper losses.
GBP/USD trades with negative bias, eyes 1.3600 ahead of UK jobs data
The GBP/USD pair trades with a negative bias for the second straight day, though it lacks bearish conviction and holds above the 1.3600 mark through the Asian session on Tuesday. Traders now look forward to the release of the UK monthly jobs report, which will influence the British Pound and provide some impetus to the currency pair.
USD/JPY falls back toward 153.00 as Japanese Yen finds its feet
USD/JPY has turned south to test the 153.00 level after having faced resistance near the 153.75 zone in Asian trading on Tuesday. The divergent BoJ-Fed policy expectations offer some support to the Japanese Yen. That said, Japan's weak Q4 GDP print, released on Monday, tempered bets for an immediate BoJ rate hike. This, along with the underlying bullish sentiment, could limit the pair's downside.
Editors’ Picks
AUD/USD eases toward 0.7050 after RBA minutes
AUD/USD inches lower toward 0.7050 in Tuesday's Asian trading, reacting little to the RBA February Minutes, which reinforced a tightening bias. The hawkish outlook, however, fails to provide any impetus to the Australian Dollar as the timing of the next rate hike is unclear. In contrast, bets for more rate cuts by the Fed keep the US Dollar bulls on the defensive and act as a tailwind for the Aussie amid the underlying bullish sentiment.
USD/JPY falls back toward 153.00 as Japanese Yen finds its feet
USD/JPY has turned south to test the 153.00 level after having faced resistance near the 153.75 zone in Asian trading on Tuesday. The divergent BoJ-Fed policy expectations offer some support to the Japanese Yen. That said, Japan's weak Q4 GDP print, released on Monday, tempered bets for an immediate BoJ rate hike. This, along with the underlying bullish sentiment, could limit the pair's downside.
Gold declines as trading volumes remain subdued due to holidays in China
Gold price extends its losses for the second successive session, trading around $4,930 per troy ounce during the Asian hours on Tuesday. Gold price is trading nearly 0.7% lower at the time of writing as trading volumes stayed thin due to market holidays across China, Hong Kong, and other parts of Asia.
Top Crypto Gainers: Stable, MemeCore and Nexo rally test critical resistance levels
Stable, MemeCore, and Nexo are among the leading gainers in the crypto market over the last 24 hours, while Bitcoin remains below $70,000, suggesting renewed interest in altcoins among investors.
The week ahead: Key inflation readings and why the AI trade could be overdone
It is likely to be a quiet start to the week, with US markets closed on Monday for Presidents Day. European markets are higher across the board and gold is clinging to the $5,000 level after the tamer than expected CPI report in the US reduced haven flows to precious metals.
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