LONG
STRADDLE
A Straddle is
a volatility strategy and is used when the stock price / index is expected to
show large movements. This strategy
involves buying a call as well as put on the same stock / index for the same
maturity and strike price, to take advantage of a movement in either direction,
a soaring or plummeting value of the stock / index. If the price of the stock /
index increases, the call is exercised while the put expires worthless and if
the price of the stock / index decreases, the put is exercised, the call
expires worthless. Either way if the stock / index shows volatility to cover
the cost of the trade, profits are to be made. With Straddles, the investor is
direction neutral. All that he is looking out for is the stock / index to break
out exponentially in either direction.
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When to Use: The investor thinks that
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Example
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the underlying stock
/ index will
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Suppose Nifty
is at 4450
on 27th
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experience significant volatility in the
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April. An
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near term.
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investor,
Mr. A enters
a long straddle
by
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buying a May Rs 4500 Nifty Put for Rs. 85 and
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Risk: Limited to the
initial premium
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a May Rs. 4500 Nifty Call for Rs. 122. The net
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paid.
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debit taken to enter the trade is Rs 207, which
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is also his maximum possible loss.
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Reward: Unlimited
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Strategy : Buy Put + Buy Call
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Breakeven:
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Nifty index
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Current Value
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4450
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· Upper Breakeven Point =
Strike Price
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of Long Call + Net Premium Paid
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Call and Put
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Strike Price (Rs.)
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4500
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· Lower Breakeven Point =
Strike Price
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Mr. A pays
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Total Premium
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207
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of Long Put - Net Premium Paid
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(Call + Put) (Rs.)
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Break Even Point
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4707(U)
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(Rs.)
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(Rs.)
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4293(L)
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The
payoff schedule|
On expiry
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Net Payoff from Put
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Net Payoff from Call
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Net Payoff
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Nifty closes at
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purchased (Rs.)
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purchased (Rs.)
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(Rs.)
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3800
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615
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-122
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493
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3900
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515
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-122
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393
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4000
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415
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-122
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293
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4100
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315
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-122
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193
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4200
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215
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-122
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93
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4234
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181
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-122
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59
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4293
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122
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-122
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0
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4300
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115
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-122
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-7
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4400
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15
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-122
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-107
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4500
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-85
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-122
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-207
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4600
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-85
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-22
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-107
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4700
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-85
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78
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-7
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4707
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-85
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85
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0
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4766
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-85
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144
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59
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4800
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-85
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178
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93
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4900
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-85
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278
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193
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5000
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-85
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378
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293
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5100
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-85
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478
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393
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5200
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-85
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578
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493
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5300
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-85
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678
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593
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The
payoff chart (Long Straddle)
+ =
Buy Put Buy Call Long Straddle
