Long Strangle: Options Strategy For Volatile Stocks

options trading guide for volatile stocks

The Long Strangle strategy is for stocks that are extremely volatile or are expected to be volatile.

Think about what’s happening to PC Jewellers now and what happened to Fortis a while back when it crashed from 200+ to 110. These are the stocks for which the Long Strangle can work wonders.

You also can maximize gains if you can intelligently anticipate which way the stock will move. However, even if you cannot anticipate the movement, then this strategy will yield limited profits or losses (mostly profits).

How To Play The Long Strangle Strategy

The strategy involves buying

(a) an out-of-the money call option

(b) an out-of-the-money put option

with the same expiration date.

Let’s start with an example. Let’s identify the stock.

It’s 7 May 2018, and volatile stock that hits us smack in the face is PC Jewellers.

The CMP is 225.

The 31-5-18 200 PE is 12

The 31-5-18 250 CE is 16

Let’s buy one lot each.

1500 units in one lot, so the total investment works out to:

1500 X 12 = 18,000

+

1500 X 16 = 24,000

Total = RS 42,000

The rates mentioned above were prevalent at around 11 AM.

It’s 11.35 AM now and the rates are:

The 31-5-18 200 PE is 10

The 31-5-18 250 CE is 20

If we book out now, our profits are:

1500 X 10 = 15,000

+

1500 X 20 = 30,000

Total = RS 45,000

There’s a straight profit of Rs 3,000 within 40 minutes.

Let’s wait and watch some more.

It’s 2.10 PM now and the rates are:

The 31-5-18 200 PE is 9

The 31-5-18 250 CE is 23

If we book out now, our profits are:

1500 X 9 = 13,500

+

1500 X 23 = 34,500

Total = RS 48,000

There’s a straight profit of Rs 6,000 in 95 minutes.

Let’s wait and watch some more, and set the cut off time to 3.00 PM to finish up the article.

It’s 3.00 PM now and the rates are:

The 31-5-18 200 PE is 8.50

The 31-5-18 250 CE is 22.50

If we book out now, our profits are:

1500 X 8.50 = 12,750

+

1500 X 22.50 = 33,750

Total = RS 46,000

There’s a straight profit of Rs 4,000.

Let’s square up this mock trade and be happy with Rs 4,000 in the pocket.

UPDATE ON 8-5-18

If the position was carried over for a day, here is how the profits would have looked:

The 31-5-18 200 PE is 28

The 31-5-18 250 CE is 23

If we book out now, our profits are:

1500 X 28 = 42,000

+

1500 X 23 = 34,500

Total = RS 76,500

There’s a straight profit of Rs 34,500.

Worst Case Scenario

The worst case scenario in this case would have been P C Jewellers staying steady or moving 5 bucks either way during the day.

If it were steady, you would have lost the options brokerage, which would have been a 100 bucks here or there.

In the worst possible case (inconsistently steady movement) you would have max lost a buck either way and your losses would have been capped to Rs 3,000 (worst case).

Anticipation

In the book trade, I picked up out-of-money CE and PE that were 25 bucks away from the CMP.

Had I anticipated that the chance of PC Jewellers moving higher than greater than it moving lower, I would have picked up a cheaper PE (say at around 180 strike price) and maximized my gains.

When to Enter Into A Long Strangle

  1. In volatile stocks, at any time.
  2. On or around results’ day.
  3. By monitoring company announcements and entering into a long strangle on the day of the meeting.
  4. In any stock that is heavily in the news, for whatever reason, good or bad.

Caution

Square up both options at the same time, preferably in 1-2 days from the day of entering into the trade or when you feel that the volatility has fizzled out.

Do not leave any call open.

Remember that as time passes and the expiration comes closer, the time value of options erode rapidly. Therefore you must book your profits or losses quickly for this strategy. Don’t allow your option to rot

If you are new to options, create an Excel sheet and enter into mock trades. Play the real market only when you have sort of mastered options.

18 Comments on "Long Strangle: Options Strategy For Volatile Stocks"

  1. Pankaj gupta | May 7, 2018 at 12:08 pm | Reply

    good learning sir, good stretegy

  2. Excellent explanation and superb illustration sir. Hats off

  3. I tried same thing on Infy before result day. at a time both CE and PE went half of the price.
    Can we know, how to get option is costly than actual price it should be.

  4. Dr.Kunal Sharma | May 8, 2018 at 6:14 am | Reply

    Hi boss its your follower from twitter
    https://twitter.com/Kanemasters

    Excellent post.
    But I wanted to resolve a doubt about the Maximum loss in this strategy.
    You mentioned that
    “Worst Case Scenario

    The worst case scenario in this case would have been P C Jewellers staying steady or moving 5 bucks either way during the day.

    If it were steady, you would have lost the options brokerage, which would have been a 100 bucks here or there.

    In the worst possible case (inconsistently steady movement) you would have max lost a buck either way and your losses would have been capped to Rs 3,000 (worst case).”

    But will that not happen, only if we keep our SL at 1Rs downside for both options.

    Otherwise it will be like this in case of Max Loss
    Max Loss

    The maximum loss is limited. The maximum loss occurs if the underlying stock remains between the strike prices until expiration. If at expiration the stock’s price is between the strikes, both options will expire worthless and the entire premium paid will have been lost.
    SO in this scenario it will be
    1500 X 12 = 18,000
    +
    1500 X 16 = 24,000
    Total = RS 48,000 + Brokerage as per your broker

  5. Suddharsan Dhanakoti Subbramaniyam | May 8, 2018 at 6:30 am | Reply

    Fantastic sir

  6. Himanshu Patel | May 8, 2018 at 11:52 am | Reply

    Hello Sir,
    Thanks for sharing, Currently Backtesting it and just wanted to know on a result day don’t you think options are costly due to IV and we should use short strangle?
    Also choosing 250 CE and 200 PE is just simple logic that stock can not move beyond this range or something else.

    Thanks a lot in advance for your revert back.

  7. Deven Bavaria | May 8, 2018 at 2:08 pm | Reply

    Very good and well defined

  8. sir can u explain please th erational behind taking 200 and 250 as pe and ce respectively and what can be variations in this

  9. You have given example where profit shown as 34500. But how it’s possible that both pe and ce will rise simultaneously above our buying price? We always see either one of them rises or both erodes if stock not moving either side.

    • sunil.tinani | June 14, 2018 at 2:32 am | Reply

      Combined premiums in volatile stocks always rise (you have to add both CE and PE premiums and calculate)

  10. wt abt IGL

  11. Meenakshisundaram | August 4, 2018 at 6:24 pm | Reply

    Awesome sir !! You are a rock star

  12. Thank you, Sunilji.

  13. Rajesh Sankaranarayanan | October 5, 2018 at 4:48 am | Reply

    One very important point before entering into Long Strangle is to look at the Option Chain ‘Change in OI’ data also. If no change in OI then this strategy won’t work. Either carry over the position to next day or exit with loss.

  14. Rajesh Sankaranarayanan | October 16, 2018 at 5:01 am | Reply

    SunilJi, Is it a must that the premium of PE & CE should both be the same or very close to each other?
    PE 0.70
    CE 0.55
    Is this ok?

    • If the stock is not volatile it will not work, and premiums will not matter. For volatile stocks, it is best to play OTM options equidistant to the CMP

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