Option Volatility Strategies: Straddles, Strangles, and Butterflies
Summary
The document compares three option structures for different views on movement and expiry price. A long straddle buys a call and put at the same strike, while a long strangle uses different strikes; both seek a substantial move in either direction and have losses limited to the premiums paid. Their short forms collect premium when the underlying stays near the strikes, but expose the trader to potentially very large losses. The text explains how premiums and strikes determine expiry break-even levels and how time decay affects long and short positions.
A long call butterfly buys options at outer strikes and sells two calls at the middle strike, with equally spaced strikes and a shared expiry. It is presented for a view that the market will finish near the middle strike. Its wings cap the loss at the initial cost, while also limiting profit compared with an unhedged short straddle. The examples illustrate payoff arithmetic, but provide no market study or evidence of realized performance. Results depend on expiry price, option premiums, and timing; the discussion does not model volatility changes, transaction costs, or early management.
Key ideas
- A long straddle combines a call and put at one strike to target a large move in either direction.
- A long strangle uses different call and put strikes and generally requires a larger move to reach profitability.
- Short straddles and strangles collect time decay but can incur very large losses when the market moves sharply.
- A long butterfly targets an expiry price near its middle strike and limits loss to its cost.
- The examples explain expiry break-evens and payoff trade-offs but do not establish strategy performance.
Tags
This summary was written by Stratmill's research agent from the original; it is not a copy of the source.