Neutral Market Option Strategies
There are 5 common Neutral Market Option Strategies implemented by investors: Short Straddle, Short Combination, Long Straddle, Long Combination, and Time Spread.
1) Short Straddle: This strategy is implemented by simultaneously writing a put and a call option on the same stock with the same strike price and the same expiration date.
When to use a Short Straddle:
• An investor feels the stock will remain at or very near to the strike price
• An investor is willing to accept a large amount of risk in exchange for the stock option premium received.
For example: write the XYZ June 30 Put and also write the XYZ June 30 call.
2) Short Combination (Short Strangle): This strategy is similar to the Short Straddle as you write a call and a put option; however, the difference is that with a short combination you use different strike prices.
When to use a Short Combination:
• An investor feels a stock will remain between the two strike prices
• An investor is willing to accept a larger risk in exchange for the option premiums received.
For example: write XYZ June 20 Puts and Write XYZ June 30 Calls.
3) Long Straddle: This strategy is the opposite of the Short Straddle; an investor will simultaneously buy a call option and a put option on the same stock with the same strike price and same expiration date.
When to use a Short Combination:
• An investor feels a stock will experience a large price move but is not sure in which direction it will occur.
For example: Buy XYZ June 30 Puts and buy XYZ June 30 Calls.
4) Long Combination (Long Strangle): This strategy is similar to the Long Straddle as it involves buying a put option and a call option on the same stock; however, you use different strike prices.
When to use a Long Combination:
• An investor feels a stock will make a large price move but is unsure of the direction.
For example: buy XYZ June 20 Puts and buy XYZ June 30 Calls.
5) Time Spreads (Calendar Spreads): This strategy is implemented by buying and writing an equal number puts or calls on the same stock with different expiration dates but the same strike prices. Normally time spreads have a neutral basis but they can also be designed for a bullish or bearish basis.
When to use a Short Combination:
• An investor feels the stock will remain around the strike price.
For example, the investor writes a near term option with a strike price near the stocks current market price and buy’s a long term option and hopes the time value of the near term option will erode in value faster than that of the long term option.
Neutral Option Strategies Chart
| Option Strategy | Market Volatility Forecast | Maximum Reward | Maximum Risk | Break Even Price |
|---|---|---|---|---|
| Short Straddle | Declining | Premiums Received | Infinite | Strike Price +/- Premiums Received |
| Short Combination (Call Strike > Put Strike) | Declining | Premiums Received | Infinite | 1. Call Strike Price + Premiums Received, 2. Put Strike Price – Premiums Received |
| Short Combination (Call Strike < Put Strike) | Declining | Premiums Received – (put strike price – call strike price) | Infinite | 1. Call Strike Price + Premiums Received, 2. Put Strike Price – Premiums Received |
| Long Straddle | Increasing | Infinite | Premiums Paid | Strike Price +/- Premiums Paid |
| Long Combination (Call Strike>Put Strike) | Increasing | Infinite | Premiums Paid | 1. Call Strike Price + Premiums Paid, 2. Put Strike Price – Premiums Paid |
| Long Combination (Call Strike < Put Strike) | Increasing | Infinite | Premiums Paid – (Put Strike Price – Call Strike Price) | 1. Call Strike Price + Premiums Paid, 2. Put Strike Price – Premiums Paid |
| Time Spread | Declining | Market Price of Long Option – Net Premium Paid |
