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How to Trade Options » OPTION TRADING STRATEGIES » Straddle Option Strategy

Straddle Option Strategy

A Straddle Option Strategy With a Difference

I’d like to share with you a straddle option strategy that I think works very well and at the same time, lowers your overall risk in each trade. The other side to it is that it can also reduce your profit potential – though not necessarily. But I like the idea of quickly eliminating risk and putting yourself in a position where, whatever happens next, you can’t lose money – you can only make it.

In case you’re reading this and don’t yet understand what an option straddle trade is … it’s simply the simultaneous purchase of an equal number of call and put options using an at-the-money strike price and preferably with an expiry date of at least 90 days out. You can use shorter expiry terms but this increases your risk of theta (time) decay which erodes your profitability potential. You also want to give yourself as much time as possible for the trade to show a profit.

Straddle trading is not a day trading strategy. It is a more passive, longer-term option trading approach. You can use straddle positions with short-term expiry dates along with share purchases based on the delta but this is a more advanced straddle option strategy called ‘gamma scalping’. For more on this, take a look at the bonus video files in the Trading Pro System by Tradingology.

But getting back to your conventional straddle …

Here’s how it goes:

1. Do your normal analysis and decision-making with regard to a conventional straddle setup. Check that the implied volatility in your option entry prices is low and that upon analysis, the (greek) vega is a number of times greater than the (greek) theta at entry. If you don’t know how to check this, open an account with ThinkorSwim. Their trading platform supplies you with all this information.

2. As soon as your initial order is filled, immediately set a “good till canceled” sell-to-close order for BOTH the call and put options in the trade at an amount at least equal to the entry price for the entire straddle option strategy. So if say, it cost you $2.35 to enter the whole straddle trade, set your exit prices for calls at about $2.45 (to cover brokerage) and do the same for the puts.

You don’t care which one reaches the target exit price first because once it happens and one side of the straddle is closed, you now effectively have another option position open which has cost you nothing.

Whatever happens from here on, you CAN’T LOSE MONEY!

You can now choose to immediately close out the ‘losing’ position, knowing that whatever you receive for it will be your overall profit. Or you can continue to hold the position in the hope that the underlying will retrace enough to give you a better profit. From here on in, whatever value your brokerage account tells you the remaining option position has, this is the profit you can take at any time.

The worst that can happen is that the option eventually expires worthless – but you have lost nothing since you have covered your cost from the profit on the winning side.

This is a beautiful straddle option strategy with a great “sleep at night” factor. You just set it and walk away. Soon you will receive notification that one side of the straddle has closed for your original cost. You now have your original capital back to use for other trades and you monitor the remaining position for exit opportunities.

Suggested Chart Setups for This Straddle Option Strategy

Since you’re looking for the underlying to move in one direction then bounce back, you might like to consider a stock that is currently trading in a channel. The more horizontal the channel the better, but directional channels can work just as well. You simply time your entry at a point where the underlying is at the channel’s midpoint. Make sure the channel is wide enough for one of the option positions to make enough profit to cover the cost.

So if the stock price falls to the channel support level, the put option gains cover the cost of the entire trade and you then wait for it to bounce northward to increase the value of your call options for overall profit. If it doesn’t bounce and continues to fall … who cares? You can’t lose now anyway.

Straddle Option Strategy

Enter Straddle at Channel Extremities

When I Wouldn’t Use This Straddle Option Strategy

There are two situations that would prevent me from considering this straddle option strategy. The first is on a stock that doesn’t show much historical price volatility. You want a stock that you expect has a high chance of moving enough in the short term to achieve your objective. A casual look at a one-year chart will give you a good idea of how far a stock moves in a month.

The second situation is where the underlying stock is forming a ‘symmetric triangle pattern’ – higher lows and lower highs converging to a point. These patterns are often followed by an explosive breakout. So when you see this happening, I would be more inclined to enter my straddle position and simply set an OVERALL profit target for the entire position. Why? Because once it breaks out in either direction, it’s more likely to continue so that your ‘losing’ position has a mu

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Filed Under: OPTION TRADING STRATEGIES Tagged With: gamma, good options straddle strategy, good straddle strategy, options straddle strategy, scalping

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DISCLAIMER: All stock options trading and technical analysis information on this website is for educational purposes only. While it is believed to be accurate, it should not be considered solely reliable for use in making actual investment decisions. This is neither a solicitation nor an offer to Buy/Sell futures or options. Futures and options are not suitable for all investors as the special risks inherent to options trading may expose investors to potentially rapid and substantial losses. You must be aware of the risks and be willing to accept them in order to invest in the futures and options markets. Don't trade with money you can't afford to lose. No representation is being made that any account will or is likely to achieve profits or losses similar to those discussed in this video or on this website. Please read "Characteristics and Risks of Standardized Options" before investing in options. CFTC RULE 4.41 - HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTS HAVE CERTAIN LIMITATIONS. UNLIKE AN ACTUAL PERFORMANCE RECORD, SIMULATED RESULTS DO NOT REPRESENT ACTUAL TRADING. ALSO, SINCE THE TRADES HAVE NOT BEEN EXECUTED, THE RESULTS MAY HAVE UNDER-OR-OVERCOMPENSATED FOR THE IMPACT, IF ANY, OF CERTAIN MARKET FACTORS, SUCH AS LACK OF LIQUIDITY. SIMULATED TRADING PROGRAMS IN GENERAL ARE ALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED WITH THE BENEFIT OF HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFIT OR LOSSES SIMILAR TO THOSE SHOWN.