The strangle is much like a straddle position, however it requires less capital to initiate the trade. The disadvantage is that a larger move is required in the underlying stock to produce a profit. The strike prices are typically of equal distance apart from the strike price that is closest to the underlying stock price.
The most common time to initiate a strangle is before earnings and before implied volatility has begun to rise in the underlying stock. Because the strangle is Vega positive, an increase in implied volatility will help make the position profitable.
Components:
1) Buy 1 OTM call option
2) Buy 1 OTM put option
(equal strikes apart)
Margin Requirement = Net Debit
Breakeven on Downside = Put Strike - Net Debit
Breakeven on Upside = Call Strike + Net Debit
Maximum Loss = Net Debit
Maximum Profit = Unlimited
An investor is expecting an explosive move in XYZ
stock, but has no bias towards direction. The stock is currently
trading at $35. To open a strangle:
Buy 1 December 32.5 put option for a debit of $2.00
Buy 1 December 37.5 call option for a debit of $2.00
Net Debit: $4.00
Margin Required: $4.00
Breakeven on Downside: $30.50
Breakeven on Upside: $39.50
Max. Loss: $4.00
Max. Profit: Unlimited
Strangle Risk Profile
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