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A long straddle is an options strategy similar to a short straddle but with the opposite position – buying both a call option and a put option instead of selling them. As with the short straddle, both options have the same strike price and expiration date on the same underlying asset.
Limited Profit Potential: Profits are capped at the difference between the higher strike price and the lower strike price minus the premiums paid for both options.
Limited Risk: Maximum loss is limited to the combined cost of both options (premiums paid).
Neutral Outlook: This strategy assumes the asset price will move significantly in either direction but the direction itself is uncertain.
High Volatility Benefit: Profits benefit from increased volatility as it amplifies potential gains in either direction.
Buying the Call Option: Grants you the right, but not the obligation, to buy the asset at the strike price by the expiration date. If the price rises above the strike price, you can exercise the call option and profit from the difference.
Buying the Put Option: Grants you the right, but not the obligation, to sell the asset at the strike price by the expiration date. If the price falls below the strike price, you can exercise the put option and profit from the difference.
Profit Scenarios:
The asset price moves significantly up or down from the strike price by the expiration date. You profit from exercising the in-the-money option (call if up, put if down), offset by the loss of the out-of-the-money option's premium.
The asset price moves moderately in either direction, exceeding the breakeven points (slightly above the higher strike for calls, slightly below the lower strike for puts). You still have the potential to profit, but gains are reduced compared to significant price movements.
Loss Scenarios:
The asset price stays near the strike price throughout the option's life. Both options expire worthless, resulting in a loss equal to the combined premium paid.
This strategy is suitable for investors who:
Remember, even though the maximum loss is limited, the cost of buying both options is higher compared to other strategies like buying a single call or put. Additionally, time decay erodes the value of both options over time, regardless of price movement, further impacting your potential profit.
The break-even point for an option strategy is the underlying asset price at the expiration date where the strategy neither makes a profit nor suffers a loss. It takes into account the combined costs and potential payoffs of all options involved in the strategy.
In options trading, the probability of profit (POP) reflects the likelihood of your chosen strategy resulting in a profitable outcome by the expiration date. While it's not a foolproof indicator, it can be a helpful tool for assessing potential risk and reward scenarios.