Short Strangle Option Strategy

What Are The Characteristics Of This Option Strategy?

A short strangle option strategy is a limited risk, neutral strategy which is used when a trader expects the price of the underlying asset to remain stable within a range. The strategy involves selling a higher strike call and a lower strike put at the same time, with the same expiration month. The maximum profit potential of the short strangle is limited as the vertical spread of the two options increases in value with higher volatility. On the other hand, the loss potential of the strategy is unlimited as the underlying asset price may theoretically move in either direction beyond the two breakeven points.

Is This A Bullish, Bearish or Neutral Strategy?

A short strangle options strategy is a neutral strategy as the options are sold in both direction, at the same expiration date. The outcome of the trade will depend on how the price of the underlying asset moves within the range of the two strikes.

Is This A Beginner Or An Advanced Option Strategy?

The short strangle option strategy is more suitable for experienced traders as it requires a certain level of expertise to assess the market behaviour and volatility accurately. Furthermore, a beginner trader should have a solid understanding of the Greeks, including Delta and Vega, before trading this strategy.

In What Situation Will I Use This Strategy?

The short strangle option strategy is used when the trader believes the underlying asset will remain in a range, with prices not going too high or too low. The trader will be selling an option out of the money with the other option at the money or slightly out of the money. The strategy will be profitable if the underlying asset price stays within the two strikes throughout the expiry date.

Where Does This Strategy Typically Fall In The Range Of Risk-Reward And Probability Of Profit?

This options strategy typically falls in the low to moderate risk category, with a high probability of profit. The maximum profit potential of the strategy is limited, since the spread of the two options increase in value with higher volatility. The loss potential is unlimited, with prices of the underlying asset moving beyond the two breakeven points.

How Is This Strategy Affected By The Greeks?

For a short strangle option strategy, the main Greek to consider is Vega. Since the spread of the two options increases in value with higher volatility, the position will be negatively affected by increasing Vega. It is therefore important to consider the volatility of the market when executing this strategy.

In What Volatility Regime (i.e VIX Level) Would This Strategy Be Optimal?

The short strangle option strategy will be optimal when the volatility level of the underlying asset is between 30% and 70%. Any volatility level lower than 30% could cause prices to move beyond the two breakeven points, resulting in a loss. Alternatively, any volatility level above 70% will drive the spread too high for the maximum profit potential to be realised.

How Do I Adjust This Strategy When The Trade Goes Against Me? And How Easy Or Difficult Is This Strategy To Adjust?

If the trade goes against the trader, the position can be adjusted either by rolling the options out or by executing a covered call buy-write. Both strategies require the trader to have a solid understanding of the market behaviour and prices movements of the underlying asset. The adjustment can be difficult depending on the market conditions.

Where Does This Strategy Typically Fall In The Range Of Commissions And Fees?

The short strangle option strategy typically falls in the low to moderate range of commissions and fees. This is due to its limited profit potential, as well as the fact that the trader is only trading two options at the same time.

Is This A Good Option Income Strategy?

This option strategy is not typically used as an income strategy as the profit potential of the strategy is limited due to the vertical spread of the two options. However, traders may opt to use this strategy when they expect the underlying asset to remain in a certain range and when the cost of the verticle spread is covered by a high implied volatility in the options.

How Do I Know When To Exit This Strategy?

The trader should assess the price movements of the underlying asset to determine when to exit the short strangle strategy. Depending on the underlying asset, the trader should look out for signs of reversals or trend changes. As such, the trader should keep track of the price action of the underlying asset to exit the strategy when the profit potential starts diminishing without increasing the risk.

How Will Market Makers Respond To This Trade Being Opened?

When a short strangle option strategy is opened, market makers may identify the trade as a neutral strategy and not actively participate in the trade. In addition, trading a short strangle option strategy does not require significant market participation and hence market makers will not be looking to take advantage of the trade.

What Is An Example (with Calculations) Of This Strategy?

For instance, a trader may choose to sell a short strangle option position with an underlying asset XYZ at a current price of $50. The trader may then decide to sell a $48 put and a $52 call, both having 30-days expiration. If the stock price is still within the range of $48 and $52 at expiration, then the maximum profit potential of the position will be the initial credit received by the trader, which is the difference between the respective strike prices minus commissions and fees. On the other hand, the maximum potential loss is unlimited since the stock may theoretically move beyond the two respective strike prices.

MarketXLS Help

When trading the short strangle option strategy, it is important for traders to understand the risk and reward profile of the strategy as well as the effects of the Greeks. MarketXLS provides various options strategies calculators, such as the Short Guts Long Guts Calculator https://marketxls.com/short-guts-long-guts-option-strategy/ and Implied Volatility Calculator https://marketxls.com/implied-volatility-long-straddle/, to help traders to better assess the risk involved in the strategy. The calculators provide traders a quantitative approach when studying the impact of changes in Volatility, underlying price and other Greeks on the options strategy.

Here are some templates that you can use to create your own models

Short Strangle Option Strategy
Calendar Strangle
Short Straddle Option Strategy
Synthetic Short Straddle with Calls
Synthetic Short Straddle with Puts
Calendar Straddle
Short Albatross Spread

Search for all Templates here: https://marketxls.com/templates/

Relevant blogs that you can read to learn more about the topic

Short Strangle Option Strategy
ITM Options: A Strategic Investing Tool
“How Iron Condor and Strangle Options Differ”
Short Guts & Long Guts Option Strategy
“Maximizing Your Profits with Out of Money Call Options”