Introduction To Options Straddles

This is the first post on selling options Straddles, and will introduce the strategy structure.  In subsequent posts we will look at the backtest results for short Straddles on the S&P 500 Index (SPX) and the Russell 2000 Index (RUT).

A short Straddle is constructed by selling the same strike call and put.  This strike is typically at-the-money (ATM), but can also be constructed with a bearish tilt (below the money) or a bullish tilt (above the money).  Since there are no long options, this strategy has undefined risk.  An Iron Butterfly is similar, except that it has long options for each of the shorts that are sold.  Because of this, an Iron Butterfly has defined risk.

Let's look at some examples based on the prices of the SPX options on September 6, 2015. On this date the October options were expiring in 39 days (39 DTE) and the November options were expiring in 74 days (74 DTE).  The put and call strikes in the images below were used to construct the Straddles. In these images, you can see some of the more important attributes for each option, including delta, price, and probabilities.

SPX Oct 2015 Options Chain - September 6th, 2015
(click to enlarge)
SPX Nov 2015 Options Chain - September 6th, 2015
(click to enlarge)
The future backtest results will look at short Straddles at different DTE.  In the two sets of images below, we'll compare the ATM Iron Butterfly with the corresponding ATM short Straddle at the same DTE.  Also, note that the x-axis and y-axis scales are the same in all of the risk graph images.

39 DTE Short Iron Butterfly
39 DTE SPX Oct 2015 Iron Butterfly - 100 point wings
(click to enlarge)
  • Portfolio Margin Req: $1,284
  • Delta: -9.22353
  • Theta: 31.79654
  • Credit Received: $7,520
  • Risk: $2,480

39 DTE Short Straddle
39 DTE SPX Oct 2015 Straddle
(click to enlarge)
  • Portfolio Margin Req: $5,565
  • Delta: -4.08736
  • Theta: 152.43441
  • Credit Received: $12,205
  • Risk: undefined

74 DTE Short Iron Butterfly
74 DTE SPX Nov 2015 Iron Butterfly - 100 point wings
(click to enlarge)
  • Portfolio Margin Req: $757
  • Delta: -6.65822
  • Theta: 13.16180
  • Credit Received: $8,095
  • Risk: $1,905

74 DTE Short Straddle
74 DTE SPX Nov 2015 Straddle
(click to enlarge)
  • Portfolio Margin Req: $5,111
  • Delta: -5.07227
  • Theta: 107.44388
  • Credit Received: $16,140
  • Risk: undefined

Similar to our comparison of short Iron Condors with short Strangles, again we see higher compensation for increased risk.  Since we don't buy longs for Straddles, the credit is larger than for the corresponding Iron Butterflies.  In addition, since we don't have long options in a short Straddle, we have higher theta.  In exchange for the undefined risk, we receive much higher credits, and much greater theta...we get paid more and the money comes in faster...the same thing we noticed when we compared Iron Condors with Strangles.

With a straddle, we need to be aggressive with loss management...we can't let these trades get away from us, or we could potentially have huge losses.  This is even more important with Straddles than with Strangles.

In the next post, I'll describe the exits that will be backtested and the trade setup details.


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