What is Strangle Option Trading Strategy?

Professional investors understand every factor that can affect the Indian financial market. With years of experience, they have perfected various analysis techniques required to understand the market trends and the possible price movement. Such investors try their hands on every asset class to find what can offer them diversification, good/steady returns and ensure a hedge against their other investments. These factors help professional investors earn profits where amateur investors who only invest in equities miss out.

Derivatives are an asset class preferred by almost every experienced investor who does not want to limit their profits and risk exposure entirely on a volatile asset class. They choose to trade in derivatives that come with two options: Forwards Contract and Options Contract. Within this asset class, most of the investment is made in Options as they offer a broader profit potential, less risk exposure owing to its numerous Options Trading Strategies.

In the previous blogs, we have detailed various Options Trading strategies you can use to make profits even in a volatile or bearish market. The same goes with another Options trading strategy called Strangle Options Strategy. However, you must first learn about some terms associated with Options Trading that you would need to understand the Strangle Options Strategy.

Some terms associated with Strangle Options Strategy

  • Call Options: A Call Option is a contract wherein you win the right, but not the obligation, to buy a certain underlying asset at a decided upon price and date between the contracting parties.

  • Put Options: A Put Option works exactly opposite to the call option. While the call option equips you with the right to buy, the put option empowers you with the right to sell the stock at the price on the date agreed upon by the contracting parties.

  • Strike Price: The price at which the options contract was initially bought or the pre-determined price.

  • Spot Price: The current price of the underlying asset is attached with the options contract.

  • Premium: It is the price you pay to the seller of the option for entering into the online trading options.

  • In-The-Money (ITM) option: When the underlying asset price is higher than the strike price.

  • Out-of-the-money (OTM) option: When the underlying asset price is lower than the strike price.

  • At-the-money (ATM) option: When the underlying asset price is identical to the contract’s strike price.

What is Strangle Options Trading Strategy?

A Strangle Options Strategy is an Options strategy that includes both Call and Put options. The strike prices for both contracts are different but the underlying asset and the expiration date are the same. Investors use the Strangle Options Strategy if they think that the underlying asset can experience considerable price movement in any direction: higher or lower. A Strangle is similar in features to a Straddle but uses different strike prices in contracts, unlike a Straddle that uses contracts with the same strike price.

How does Strangle Strategy work in Options Trading?

The Strangle Options Trading Strategy is neutral, meaning that it works both in a falling or a rising market. It allows traders to earn profits based on the underlying asset’s price movement, irrespective of the direction of the price movement. Investors execute the Strangle Options Strategy if they hold both the call and put option in the same underlying asset and with the same expiration date.

The Strangle Options Strategy works through its two types:

  • Long Strangle: This is when the trader buys an OTM (out-of-the-money) call option along with an OTM (out-of-the-money) put option with a different strike price. The Call Option’s strike price is higher than the underlying asset’s current market price, while the put option’s strike price is lower than the underlying asset’s current strike price. This type of Strangle allows investors to have an unlimited profit potential if the asset’s price rises, owing to the call option. The trader also profits in the case the asset price falls as they earn due to the put option. The risk is limited to the premium paid for buying both the call and put option.

  • Short Strangle: The other type of Strangle is known as short strangle, where the trader sells an OTM (out-of-the-money) put option and simultaneously sells an OTM (out-of-the-money) call option. This is a neutral strategy that comes with limited profit potential. It allows investors to make profits if the underlying asset’s price moves between the narrow range of the two upper and lower break-even points.

Now that you understand what Strangle Options Strategy is, along with its types, you can go ahead and make steady risk free profits. Whether you want to buy or sell the call and put options, you have the long and short strangles for both scenarios. However, as the profits are made based on the price movements, they can be hard to predict. It is always advised that you consult a financial advisor such as IIFL before you implement these types of complex options strategies. The Strangle Options Strategy lowers the risk compared to other strategies that include call and put options. When implemented with prior research and analysis, it can prove highly beneficial for achieving diversification, steady profits, and low-risk exposure.

Frequently Asked Questions Expand All

Strangles and Straddles are almost similar to each other. The only difference is the strike prices, which are different in a Strangle Options Strategy and identical in a Straddle Options Strategy.

In the case of pros, the Strangle Options Strategy allows investors to benefit from the price movement, irrespective of the direction. It is cheaper than other strategies and offers unlimited profit potential. In the case of cons, the Strangle Options Strategy requires considerable movement in the price to deliver profits and carry a slightly higher risk than other options strategies.