The straddle strategy is not a gambler's carnival, but a risk pricing after precise calculation. A true volatility trader must dare to sow in calm times and also know how to reap in storms. Today we mainly talk about the buy straddle strategy, and the logic of the sell straddle strategy is the opposite of the buy straddle. Once you understand the logic of the buy straddle, you will naturally understand how to sell the straddle.

Core logic: volatility is the soil for profit

The essence of straddle and wide straddle strategies is to go long on volatility, by simultaneously buying call and put options to convert directional risk into a bet on volatility.

This strategy does not predict rises or falls, but only bets that prices will deviate dramatically from current levels. It is like throwing a stone into a calm lake. No matter whether the ripples spread to the left or right, as long as the waves are big enough, you can make a profit.

Take the US stock market as an example: if Apple is about to release its financial report, the market has a huge disagreement on the performance, and the stock price is now reported at $200. Investors can simultaneously buy at-the-money call and put options with an exercise price of $200 and an expiration date of 1 week, with premiums of $8 and $7 respectively.

If the stock price surges to $230 after the financial report, the call option will earn $30, the put option will be zero, and the net profit will be $15 (30-15); if it plummets to $170, the put option will earn $30, the call option will be zero, and the net profit will also be $15. The key is that the volatility must cover the double premium cost, and the break-even point is $215 (200+15) or $185 (200-15).

Strategy construction: accurately measuring volatility

The core difference between a straddle and a wide straddle is the choice of strike price. The straddle strategy uses at-the-money contracts with the same strike price, which are more sensitive to price changes; the wide straddle chooses out-of-the-money contracts with different strike prices, which reduces costs but requires greater volatility.

The straddle strategy is suitable for short-term events (such as financial reports and the Federal Reserve's interest rate meeting). For example, Tesla's stock price is currently at $180. Buying at-the-money calls (premium $10) and puts (premium $9) with an exercise price of $180 will cost you $19 in total. The stock price needs to break through $199 or fall below $161 to make a profit. It is suitable for the market where a "shocking reversal" is expected.

The wide straddle strategy is more suitable for long-term layout of highly volatile assets. For example, if the current price of Bitcoin is $60,000, buying an out-of-the-money call with an exercise price of $65,000 (premium of $3,000) and an out-of-the-money put with an exercise price of $55,000 (premium of $2,500) will cost a total of $5,500. The price of the currency needs to break through $70,500 (65,000 + $5,500) or fall below $49,500 (55,000 - $5,500) to make a profit. It is suitable for betting on macro variables such as the halving cycle and geopolitical conflicts.

The dual game of time and volatility

The success or failure of a strategy depends on two forces: the rise and fall of implied volatility (IV) and the loss of time value. A high IV environment is like dry firewood, and a slight price fluctuation can ignite profits, but the premium cost is also higher; a low IV period has a low cost of opening a position, but it requires more drastic fluctuations to trigger profits.

Take Bitcoin options as an example: One month before the halving in 2024, IV was at a historical low of 40%, and the cost of buying a wide straddle was only 3% of the principal. After the halving, due to the selling pressure from miners, the price of the currency plummeted from $70,000 to $58,000, and the IV soared to 80%. The profit of the put option covered the double premium, and the total return reached 120%. On the contrary, if you enter the market at a high IV (such as 90%), even if the price fluctuates by 10%, you may lose money due to the depreciation of the option due to the decline of IV.

The time dimension is an invisible killer. The longer the straddle strategy is held, the more serious the loss of time value. It is recommended to set the expiration date 1-2 weeks after the event to avoid "seeing the volatility but losing to time". For example, when buying US stock options, choose a contract that expires 3 days after the financial report is released, which can avoid the previous IV premium and reduce time loss.

Risk Control: Avoid the Three Major Traps

Trap 1: Insufficient volatility If the price fluctuates in a narrow range, the loss of time value will eat up the principal. In 2024, Google's stock price was sideways at $140-150 for a month, and the straddle strategy holder lost all the premium. Solution: Event-driven trading needs to set a clear time window to avoid a "protracted war".

Trap 2: Volatility collapse IV often drops sharply after a major event. For example, after Apple’s financial report was released, option IV dropped from 60% to 30%. Even if the stock price fluctuates by 5%, the depreciation of the premium may lead to losses. Countermeasure: Reduce positions in batches when IV is high to lock in some profits.

Trap 3: Liquidity crisis The cryptocurrency options market is not deep enough, and the spread may be as high as 20%. If you buy Bitcoin out-of-the-money options on the Deribit platform, you may not be able to close your position in time when the price plummets. Risk control principle: give priority to contracts with a trading volume of more than 1,000 BTC to avoid "paper profits".

Next Issue: Calendar Spread Strategy

Homework

1. Volatility calculation: Select the current price of Tesla stock and calculate the total premium cost and break-even point of constructing a straddle strategy (at-the-money call + at-the-money put). What percentage of stock price fluctuation is required to make a profit after the financial report is released?

2. Practical observation: Search for Bitcoin options on the Deribit platform, compare the cost difference of wide straddle combinations with strike prices deviating from the current price by 5% and 10%, and analyze which one has a better cost-effectiveness.

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