This strategy involves buying a call as well as put on the same stock / index for the same maturity and strike price, to take advantage of a movement in either direction.
At-the-Money call and put options are bought in a straddle to reap the benefits immediately. A Straddle is a volatility strategy and is used when the stock price / index is expected to show large movements. It can be on either side i.e. a stock may rise or fall.
If the price of the stock / index increases, the call is exercised while the put expires worthless and if the price of the stock / index decreases, the put is exercised, the call expires worthless.
With Straddles, the investor is direction neutral. All that he is looking out for is the stock / index to break out exponentially in either direction.
Infosys results are expected to come today. This time the expectation is that, if the results are good the stock will make new highs or if the results are bad, the stock will plummet. I don’t want to miss this opportunity and want to be directionless.
Current Market Price of Infosys is 940. So I will buy one call option of 940 strike at 15 rupees and one put option of 940 strike at 10 rupees. This is because we buy At-the-Money options in a straddle. So, if the results are announced and the stock moves in either direction, I will be able to reap the benefits.
If the results are good and the stock moves up, the call option will give me profit and I’ll let go the put option expire worthless. Premium paid for the put option is my loss in this case. If the situation is such that the results are bad and the stock falls, the put option will give me profits and I’ll let go the call option expire worthless. Premium paid for the call option is my loss in this case.
|Infosys Call and put
Option Strike (K)