The straddle and strangle are popular options trading strategies that investors in Dubai have used for many years. These strategies involve buying or selling both a call option and a put option at the same strike price, thus creating what is known as a straddle or strangle.
There are several benefits to using these strategies, and they can allow investors to take advantage of a wide range of market conditions.
Straddle
The straddle is a strategy that involves buying a call and a put option at an identical strike price. This strategy allows an investor to profit from significant moves in either direction of the underlying asset, regardless of which direction the movement takes place.
For example, if an investor believes that the stock price for ABC Company will rise sharply in the next month, they could purchase a call option for ABC with a strike price of 25 dirhams and then buy another call option with the same expiration date but with a higher strike price.
If the stock price does rise, both options could be profitable. On the other hand, if the price of ABC falls sharply, it could result in only one of those options being profitable.
The straddle is a good strategy when an investor expects a sharp move in the market but is unsure about the direction that move will take. By combining two option contracts, investors can benefit whether prices increase or decrease.
However, there are also some risks involved with this strategy since it involves paying for two options at once. As a result, an investor must have enough capital to cover both positions if one turns out unprofitable and wants to hold onto their position until expiration.
Disadvantages Of The Straddle Strategy
It Can Be Expensive
If you use a straddle, you are essentially buying two options instead of one. It can significantly increase your margin requirements since each option contract is treated as 100 shares.
If you have a 100,000 dirhams account and want to buy two contracts of the April 25 call on ABC Company (with ten days until expiration), this will require a total margin of 2,000 dirhams.
You Must Be Right About Market Direction And Magnitude
The straddle strategy gives an investor more potential profit than a simple long call or put, but it also increases your maximum loss and probability of losing money.
Strangle
The strangle is a similar strategy to the straddle, but it involves buying both a call option and a put option with different strike prices. For example, an investor may buy a call option with a lower strike price and another at a higher strike price.
It allows the investor to profit from time decay if the underlying asset does not move much or if the market moves in their favor for only part of their investment.
Just like the straddle, there are risks involved when using this strategy. You still have exposure to unlimited losses in both directions should prices move sharply against you.
However, unlike the long straddle, which has an unlimited potential profit potential, your maximum profit with the strangle is limited to the difference between the strike prices minus any premium you paid for each option contract.
The strangle strategy can be used when an investor expects a significant move in the market but is unsure about its direction and magnitude. By combining two options contracts, investors can take advantage of more price movement without accurately predicting it.
However, this strategy also comes with higher margin requirements since it involves buying two options simultaneously.
Disadvantages Of The Strangle Strategy
Higher Margin Requirements
Like the straddle, using a strangle strategy requires buying two options instead of just one. It can significantly increase your margin requirements since each option contract is treated as 100 shares.
For example, if you have a 100,000 dirhams account and want to buy two contracts of the April 25 put on ABC Company (with ten days until expiration), this will require a total margin of 2,000 dirhams (100 dirhams per share x 20 contracts = 2,000 dirhams).
Maximum Profit Potential Limited To Strike Difference Minus Premium Paid
Unlike the long put or long call option, which has unlimited upside potential, your maximum profit with the strangle strategy is limited to the difference between the strike prices minus any premium you paid for each option contract.
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