AKA Synthetic Long Stock; Combo
Buying the call gives you the right to buy the stock at strike price A. Selling the put obligates you to buy the stock at strike price A if the option is assigned.
This strategy is often referred to as “synthetic long stock” because the risk / reward profile is nearly identical to long stock. Furthermore, if you remain in this position until expiration, you will probably wind up buying the stock at strike A one way or the other. If the stock is above strike A at expiration, it would make sense to exercise the call and buy the stock. If the stock is below strike A at expiration, you’ll most likely be assigned on the put and be required to buy the stock.
Since you’ll have the same risk / reward profile as long stock at expiration, you might be wondering, “Why would I want to run a combination instead of buying the stock?” The answer is leverage. You can achieve the same end without the up-front cost to buy the stock.
At initiation of the strategy, you will have some additional margin requirements in your account because of the short put, and you can also expect to pay a net debit to establish your position. But those costs will be fairly small relative to the price of the stock.
Most people who run a combination don’t intend to remain in the position until expiration, so they won’t wind up buying the stock. They’re simply doing it for the leverage.
Who Should Run It
NOTE: The short put in this strategy creates substantial risk. That is why it is only for the most advanced option traders.
When to Run It
Break-even at Expiration
Strike A plus the net debit paid or minus the net credit received to establish the strategy.
The Sweet Spot
You want the stock to shoot through the roof.
Maximum Potential Profit
There is a theoretically unlimited profit potential if the stock price keeps rising.
Maximum Potential Loss
Potential loss is substantial, but limited to strike price A plus the net debit paid or minus net credit received.
TradeKing Margin Requirement
Margin requirement is the short put requirement.
NOTE: If established for a net credit, the proceeds may be applied to the initial margin requirement.
After this position is established, an ongoing maintenance margin requirement may apply. That means depending on how the underlying performs, an increase (or decrease) in the required margin is possible. Keep in mind this requirement is subject to change and is on a per-unit basis. So don’t forget to multiply by the total number of units when you’re doing the math.
As Time Goes By
For this strategy, time decay is somewhat neutral. It will erode the value of the option you bought (bad) but it will also erode the value of the option you sold (good).
After the strategy is established, increasing implied volatility is somewhat neutral. It will increase the value of the option you sold (bad) but it will also increase the value of the option you bought (good).
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