What is a Long Straddle?
A Long Straddle strategy involves buying both a call option and a put option with the same strike price. This strategy allows you to profit from large movements in either direction. The strategy is used when you expect volatility but are unsure if the stock price will rise or fall.
- You buy a call option with a strike price of $100.
- You also buy a put option with the same strike price of $100.
- You pay a premium for both options (e.g., $3 per share for each).
How Payoff Works:
If the stock price rises significantly, the call option gains value. If the stock price falls significantly, the put option gains value. However, you need the stock price to move far enough in either direction to cover the combined premiums paid for both options.
Example Payoff Scenarios:
- Stock Price = $90 (Below the strike price): The put option gains value, and the call option expires. Payoff = ($100 - $90) × 100 - $600 = **$400 (Profit)**.
- Stock Price = $100 (At the strike price): Both options expire worthless. Payoff = **- $600 (Maximum Loss)**, which is the total premium paid.
- Stock Price = $110 (Above the strike price): The call option gains value, and the put option expires. Payoff = ($110 - $100) × 100 - $600 = **$400 (Profit)**.