Option Trading Strategies

Question 1

Straddles (a bet on volatility)

Answer 1

• used when anticipating large movements in share price but aren’t sure of the direction of the movement.

Long straddle -> think volatility will increase
Short straddle -> think volatility will decline

Simultaneously long call and put OR simultaneously short a call and put
- have same UA, exercise price, and expiration but different premiums

Question 2

Strangle (bet on volatility w limited downside)

Answer 2

• cheaper than a straddle
• is bucket shaped because of the difference in exercise prices (unlike a straddle that has the same X)

Combination of OTM call and OTM put with same expiry date.

Question 3

Long strangle break-even points:

Answer 3

Xp - TP; Xc + TP

Question 4

Straddle break-even points

Answer 4

X-Tp; X+TP

Question 5

Strips (for when you’re pessimistic/bearish)

Answer 5

Buy 2 puts + 1 call
- a bet on volatility with a more profitable downside (like a slanted or shifted Straddle -> with a bias (longer) on the downside)

Question 6

Long strip break-even points

Answer 6

X-(TP/2); X+TP

Question 7

Strap (for when you’re optimistic/bullish)

Answer 7

Long 2 calls + 1 put
- a bet on volatility that’s more profitable on the upside

Question 8

Long Strap break-even points

Answer 8

X-TP ; X+ (TP/2)

Question 9

Bull spread (anticipating rising stock prices)

Answer 9

Buying a call with a low X and shorting a call with a higher X

Max potential loss = net premium = -Long premium + short premium

Max profit = [C(high X) - C(low X) - NP]

Question 10

Bull spread ( _/-) break even point

Answer 10

X(low) + NP

Question 11

Bear Spread breakeven point

Answer 11

X(high) - NP

Question 12

Butterfly spread (bet against volatility)

Answer 12

Hoping volatility will remain constant or decline

• long butterfly: limits downside
• short butterfly: limits upside
• combines 3 calls, each with different X’s
• long low X call
• long high X call
• short 2 middle X calls

Question 13

Butterfly spread( net premium, break-even points, max profits)

Answer 13

Net premium: -long premium - long premium + (2short premium)

Breakeven point: Xl + NP; Xh - NP

Max profits: Cmiddle - Clow - NP

Question 14

Bear spread (anticipating prices to fall)

Answer 14

• (-_)
• long at the money put + writes an out the money put
• cheaper than just a long put