Calendar Straddle Explained

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How We Trade Straddle Option Strategy

For those not familiar with the long straddle option strategy, it is a neutral strategy in options trading that involves simultaneous buying of a put and a call on the same underlying, strike and expiration. The trade has a limited risk (the debit paid for the trade) and unlimited profit potential. If you buy different strikes, the trade is called a strangle.

How straddles make or lose money

A long straddle option strategy is vega positive, gamma positive and theta negative trade. It works based on the premise that both call and put options have unlimited profit potential but limited loss. If nothing changes and the stock is stable, the straddle option will lose money every day due to the time decay, and the loss will accelerate as we get closer to expiration. For the straddle option strategy to make money, one of the two things (or both) has to happen:

1. The stock has to move (no matter which direction).
2. The IV (Implied Volatility) has to increase.

While one leg of the straddle losses up to its limit, the other leg continues to gain as long as the underlying stock rises, resulting in an overall profit. When the stock moves, one of the options will gain value faster than the other option will lose, so the overall trade will make money. If this happens, the trade can be close before expiration for a profit.

In many cases IV increase can also produce nice gains since both options will increase in value as a result from increased IV.

When to use a straddle option strategy

Straddle option is a good strategy if you believe that a stock’s price will move significantly, but don’t want to bet on direction. Another case is if you believe that IV of the options will increase – for example, before a significant event like earnings. I explained the latter strategy in my Seeking Alpha article Exploiting Earnings Associated Rising Volatility. IV usually increases sharply a few days before earnings, and the increase should compensate for the negative theta. If the stock moves before earnings, the position can be sold for a profit or rolled to new strikes. This is one of my favorite strategies that we use in our SteadyOptions model portfolio.

Many traders like to buy straddles before earnings and hold them through earnings hoping for a big move. While it can work sometimes, personally I Dislike Holding Straddles Through Earnings. The reason is that over time the options tend to overprice the potential move. Those options experience huge volatility drop the day after the earnings are announced. In most cases, this drop erases most of the gains, even if the stock had a substantial move.

Selection of strikes and expiration

I would like to start the trade as delta neutral as possible. That usually happens when the stock trades close to the strike. If the stock starts to move from the strike, I will usually roll the trade to stay delta neutral. Rolling simply helps us to stay delta neutral. In case you did not roll and the stock continues moving in the same direction, you can actually have higher gains. But if the stock reverses, you will be in better position if you rolled.

I usually select expiration at least two weeks from the earnings, to reduce the negative theta. The further the expiration, the more conservative the trade is. Going with closer expiration increases both the risk (negative theta) and the reward (positive gamma). If you expect the stock to move, going with closer expiration might be a better trade. Higher positive gamma means higher gains if the stock moves. But if it doesn’t, you will need bigger IV spike to offset the negative theta. In a low IV environment, further expiration tends to produce better results.

Straddles can be a cheap black swan insurance

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We like to trade pre-earnings straddles/strangles in our SteadyOptions portfolio for several reasons.

First, the risk/reward is very appealing. There are three possible scenarios:

Scenario 1: The IV increase is not enough to offset the negative theta and the stock doesn’t move. In this case the trade will probably be a small loser. However, since the theta will be at least partially offset by the rising IV, the loss is likely to be in the 7-10% range. It is very unlikely to lose more than 10-15% on those trades if held 2-5 days.

Scenario 2: The IV increase offsets the negative theta and the stock doesn’t move. In this case, depending on the size of the IV increase, the gains are likely to be in the 5-20% range. In some rare cases, the IV increase will be dramatic enough to produce 30-40% gains.

Scenario 3: The IV goes up followed by the stock movement. This is where the strategy really shines. It could bring few very significant winners. For example, when Google moved 7% in the first few day of July 2020, a strangle produced a 178% gain. In the same cycle, Apple’s 3% move was enough to produce a 102% gain. In August 2020 when VIX jumped from 20 to 45 in a few days, I had the DIS strangle and few other trades doubled in a matter of two days.

The main risk to this strategy is earnings pre-announcements. They can cause volatility crash and significant losses.

To demonstrate the third scenario, take a look on SO trades in August 2020:

To be clear, those returns can probably happen once in a few years when the markets really crash. But if you happen to hold few straddles or strangles during those periods, you will be very happy you did.

Overall this strategy produces over 75% winning ratio with very low risk. It is very rare to lose more than 10-15% using pre earnings straddle strategy.

Summary

A long straddle option can be a good strategy under certain circumstances. However, be aware that if nothing happens in term of stock movement or IV change, the straddle will bleed money as you approach expiration. It should be used carefully, but when used correctly, it can be very profitable, without guessing the direction.

If you want to learn more about the straddle option strategy and other options strategies that we implement for our SteadyOptions portfolio, sign up for our free trial.

The following Webinar discusses different aspects of trading straddles.

Calendar Straddle Explained

One Day Post Earnings Implied vs Actual Move

I=Inside Move: Underlying Stock moved less than the pre-Earnings release Implied Move.

O=Outside Move: Underlying Stock moved more than the pre-Earnings release Implied Move.

By default we display 10 most recent earnings and calculate mean and median of past 10 earnings.

Insider members can adjust the following settings across all sites:

Options pricing gives an indication of what the market expects in stock price range as a result of upcoming earnings announcement.

With little time remaining to a weekly options expiration, only a small percentage of the extrinsic value can be attributed to true time value.

Therefore, the larger portion of extrinsic value must be associated directly to the markets expectation of the underlying’s price range upon the announcement.

At Optionslam, we do of the ATM straddle/strangle to get a handle on what the market thinks the Implied Move will be before and after the earnings.

We also show a history of previous earnings events with the pertinent data highlighting the implied move compared to actual one day move statistics.

Implied Movement: Weekly Straddle Tracking History

At OptionSlam.com we make a concerted effort to provide the most accurate Earnings Calendar available by cross checking various sources including newswire feeds, brokerages, exchanges and individual corporate investor relations websites.

Despite our diligent efforts, OptionSlam.com cannot guarantee the accuracy of any earnings date. A wide variety of events can alter scheduled Earnings Release dates.

Because estimated dates come from a variety of sources it is possible for an estimated date to be outside the OptionSlam projected window.

It is up to each trader to verify any data found on our web site and assume all risks associated with using said data.

NVIDIA Corporation (NVDA) – NASDAQ Next Earnings Date: May 21, 2020 AC
EVR: 2.7
Avg Daily Volume: 14,231,036 Market Cap: 149.27B
Sector: Technology Short Interest: None
Live Interactive Chart
Days to Next Earnings: 41 Days
Current 7 Day Implied Movement: 5.57% Theoretical Expires in 7 days

Get the OptionSlam Edge . become an Insider Member to enable the interactive chart.

calendar straddle

1 calendar straddle

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calendar straddle — See calendar spread. Bloomberg Financial Dictionary … Financial and business terms

calendar straddle or combination — See calendar spread. Bloomberg Financial Dictionary … Financial and business terms

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Glossary:Calendar adjustment

Calendar adjustment is a statistical method for removing the calendar effect from an economic time series. The calendar effect is the variation caused by the changing number of particular week days or holidays in different months or other time periods (quarters, years).

Calendar adjustment is mainly used in the calculation of short-term statistics (STS), for converting gross (unadjusted/raw) figures or indices into their calendar adjusted equivalent. In order to adjust a figure or an index, the calendar nature of a given month is taken into account and calendar effects are removed, whatever their nature. The calendar effect may for example depend on:

  • the timing of certain public holidays (Easter can fall in March or in April, depending on the year);
  • the possible overlap of certain public holidays and non-working days (1 May can fall on a Sunday);
  • the occurrence of a leap year.

Working-day adjustment is a part of the calendar adjustment which focusses on the changing number of working days (Monday – Friday) in the various months and their effect on statistical indicators (e.g. industrial production, production in construction) for these months.

It should be noted that the calendar adjustment can have effects on the yearly average of the index value in the reference year. Generally, the yearly average of the quarterly or monthly index values for the reference year is set to 100 for the unadjusted data (see article Short-term business statistics – compiling indices at European level). This average might be changed by the calendar adjustment. Consider a year in which several holidays fall on a weekend. In this year the number of working days is higher than in other years. The average calendar adjusted index values will therefore be a bit lower than 100 in the reference year since the production (or turnover) was generated with a higher input of working days.

The effect of the calendar adjustment on the yearly average of the index values in the reference year is generally quite small. It depends on the calendar constellation in the reference year and the effect one additional working day has. As a rule the variation between the yearly average of the adjusted and the unadjusted index should not be more than +/- 2 percentage points.

Since seasonal adjustment also includes the calendar adjustment (as in the case of Eurostat STS data, where the calculation of the seasonally adjusted data is based on calendar adjusted data) the calendar adjustment effect on the yearly index average is also visible in the seasonally adjusted data.

It is possible to eliminate the effect after the calendar adjustment by re-referencing the results from the calendar adjustment again to an average of 100 in the reference year and some Member States of the EU do this while others prefer to show the effect in their data as an additional information to users.

The decision of re-referencing or showing the additional information has only an impact on the level of the time series, but has no effect on the growth rates.

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