Straddle Strategy: A Simple Approach to Market Neutral


The biggest advantage of neutral options trading strategies is really the simple fact that they exist. Forex for Beginners Why Trade Forex? It is also useful to follow a system that generates exit points as well as entry points, so you know when to take your profit. Calendar Strangle This creates a debit spread. This is reasonably complex and combines short selling a security and writing put options.

The Long Straddle


As such you need to establish:. You can see that your strategy depends not just on the funds at your disposal but also on your attitude to risk. Are you happy to shoot for a high return on your risk or would you rather target a smaller return per trade and hope that your strike rate leads to long-term profitability? These may be the pairs you feel most comfortable trading, or pairs featuring a common currency you feel you understand well.

Or do you want to look for opportunities among the more exotic pairs? Your choice of pairs to target reflects your approach to forex trading in general and is another key part of your strategy. Will you rely solely on technical analysis or will you try to incorporate news events in your forex trading strategy? Individual currencies represent geopolitical entities and are therefore highly sensitive to political events and economic data releases.

The key to trading the news is timeliness. You are seeking to predict short-term market responses ahead of other forex traders, while keeping risk protection measures in place to guard against sudden reverses.

Some of the more sophisticated strategies, such as iron condors and iron butterflies, are legendary in the world of options. They require complex buying and selling of multiple options at various strike prices. The end result is to make sure a trader is able to profit no matter where the underlying price of the stock, currency or commodity ends up.

However, one of the least sophisticated option strategies can accomplish the same market neutral objective with a lot less hassle. The strategy is known as a straddle.

It only requires the purchase or sale of one put and one call to become activated. In this article, we'll take a look at different the types of straddles and the benefits and pitfalls of each. A straddle is a strategy accomplished by holding an equal number of puts and calls with the same strike price and expiration dates.

The following are the two types of straddle positions. The success or failure of any straddle is based on the natural limitations that options inherently have along with the market's overall momentum.

A long straddle is specially designed to assist a trader to catch profits no matter where the market decides to go. There are three directions a market may move: When the market is moving sideways, it's difficult to know whether it will break to the upside or downside.

To successfully prepare for the market's breakout , there is one of two choices available:. By purchasing a put and a call, the trader is able to catch the market's move regardless of its direction. If the market moves up, the call is there; if the market moves down, the put is there. In Figure 1, we look at a day snapshot of the euro market. This allows the trader to avoid any surprises. Each at-the-money option can be worth a few thousand dollars. So while the original intent is to be able to catch the market's move, the cost to do so may not match the amount at risk.

This leads us to the second problem: How quickly a trader can exit the losing side of straddle will have a significant impact on what the overall profitable outcome of the straddle can be. If the option losses mount quicker than the option gains or the market fails to move enough to make up for the losses, the overall trade will be a loser. The final drawback deals with the inherent makeup of options. All options are comprised of the following two values:.

The other main advantage of these strategies is that by using them you can profit from three different outcomes. If the underlying security increases in price or decreases in price, you will still make a profit, providing the price movements stay within an appropriate range. Some strategies need the price of the underlying security to remain in a very tight range to return a profit, while others can profit from a wider range.

To some extent, you can control just how wide you want the range to be and this is another example of just how flexible options trading can be. Other advantages include the fact that you can turn time decay into a positive and also control your risk exposure to some extent. When using some of the more basic strategies, it's very simple to work out the maximum potential profit and maximum potential loss, and this can be very useful for when planning trades and managing risk.

Finally, the fact that there are so many different strategies you can use means you have plenty of choice and a good chance of finding one that fits well with your personal objectives. The biggest drawback is the fact that the potential profits of these is always limited, because the maximum amount of profit that can be made from any trade is essentially fixed at the moment it's executed.

Another disadvantage is that the strategies all require at least two transactions, and some of them more, so you will potentially pay a fair amount in commissions. This is actually true of most options trading strategies. Also, some of them can be quite complicated and certainly not suitable for beginners. These disadvantages are all relatively minor though, and it should be clear that they are far outweighed by the benefits.

Below, we have listed a range of neutral options trading strategies that are commonly used by options traders. If you are struggling to choose a suitable strategy, you may like to take a look at our Selection Tool. This is relatively simple and would typically be used if you already own a security and want to profit from it being in a neutral trend.

It's suitable for beginners. This is fairly simple and you would generally use it if you already own a security and want to profit from it being in a neutral trend and protect it against any losses should it fall in price. It is suitable for beginners. This is reasonably complex and combines short selling a security and writing put options. It's not suitable for beginners. This is a relatively simple trading strategy, but it's not really suitable for beginners due to the high trading level required.

It involves two transactions and creates a credit spread. This is quite straightforward but requires a high trading level so it's not suitable for beginners. It creates a credit spread and involves two transactions. This combines two transactions to create a credit spread. It's quite simple, but it requires a high trading level meaning it isn't suitable for a beginner. This is simple enough to be used by beginners. Two transactions are involved and a debit spread is created.

This is straightforward and involves two transactions.