Short Straddle

A potentially lucrative means of options trading in a quiet market is a short straddle. A short straddle is the options strategy of selling both a put and a call on the same stock with the same options expiration dates. If the stock does not move appreciably the options trader gains two premiums, for the call and for the put. If the trader finds a stock that basically never fluctuates up and down a series of short straddles on this stock can be a cash cow. If, however, the stock goes up or down substantially the trader may lose most or his or her investment capital. 

A short straddle is not a good strategy in a volatile stock market. A short straddle is not a good strategy for occasional options trading. If a stock gains or loses dramatically the options trader needs to try to cover his or he loses before they mount. This can be done by buying either the put or the call, in order to guard against farther market movement of the stock. However, if the stock has already moved substantially off of the strike price the purchase of the option will be expensive. The best strategy with short straddles is avoiding them. This is the territory of professional options traders with years of experience. It is a quagmire for the inexperienced. 

With the above as a caution people do engage in short straddles. They investigate companies whose stock price rarely moves. The problem is that even very stable companies such as Hormel in food processing, Southern Company in power generation, or Proctor and Gamble in consumer goods see variation in their stock prices. The options trader who engages in short straddles as an options strategy needs to have intimate knowledge of the stock in question and flawless judgment in picking the right time frame in which to execute their strategy. This is a strategy for some who is making a living trading options and can devote time whenever needed to the practice. 

Of the various kinds of options trading there may be better choices. This strategy is totally opposite that applied in a long straddle in which the trader believes that a stock will break out of a very narrow trading range either to the up side or down side.  With a long straddle the options trader is buying a call and a put on the same stock with the same expiration date. Unlike with a short straddle the most a trader can lose with a long straddle is the cost of two premiums. Unlike with a short straddle a trader can gain substantially no matter which direction the stock price moves, so long as it does so. 

As with all options strategies the trader will do better the more he or she knows about the underlying stock. If the trader reads the market inaccurately it is better to be in a long straddle than a short one. Risk management in options trading is all important. Engaging in a strategy with the potential for small reward and the potential for large risk is not for beginners. In options trading for the new year it is wise to map out a strategy. An all important part is how to handle risk management and how to limit the use of risky strategies such as a short straddle.