Straddle (economy)

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A straddle (from English straddle for 'tackle') is an option strategy . A distinction is made between the two variants long straddle and short straddle. With a long straddle, you speculate on strongly changing prices, with a short straddle, on the other hand, you speculate on more or less constant prices. In contrast to the long straddle, the short straddle carries an unlimited risk of loss.

Payout chart for long position in a straddle

Long straddle

At long straddle the buyer acquires the same time a call option and a put option on the same underlying - this example, a share or an equity index to be - with the same exercise price and expiration date. The buyer makes a profit with his long straddle if the price of the underlying asset on the exercise date is far removed from the exercise price. If the price development of the underlying is highly volatile , the probability for this profit scenario is also high.

With this strategy, the risk of loss is limited to the original capital employed (purchase price for both options plus expenses). This case occurs when the base value reaches exactly the exercise price on the exercise date (both options expire worthless). The amount of possible winnings is not limited.

Short straddle

For short straddle, the writer simultaneously sells a call option and a put option on the same underlying with the same strike price and expiration date. For him, the opposite is the case in economic terms: he makes a profit if the price of the underlying asset on the exercise date is very close to the exercise price. If the price development of the underlying is not very volatile, the probability for this profit scenario is also high.

With this strategy, the risk of loss as the writer of the purchase option is unlimited; this results from the obligation to deliver the basic title at the price agreed in advance. If the writer is "uncovered" - that is, he does not hold a sufficient number of the underlying in his portfolio - he must buy it on the market at the price offered there in order to be able to hand it over to the option buyer. If, on the other hand, he has the security in his custody account, his loss is limited to the difference between his cover price at the time and the agreed exercise price (plus the option premium). As the writer of the put option, however, the risk of loss is limited since the writer has to buy the base value at the price agreed in advance; the maximum loss is thus limited to this agreed price (less option premium). The amount of possible winnings is limited to the premium received.

Covered written straddle

In the case of a covered written straddle, a short straddle is combined with the coverage of the required amount of the underlying asset (for the writer position in the case of the purchase option).

Others

Nick Leeson , who caused the bankruptcy of Barings Bank through risky speculation in the 1990s , used for his speculations about the development of the Nikkei 225 futures and straddles.