The Options Playbook

Featuring 40 options strategies for bulls, bears, rookies, all-stars and everyone in between Ally Invest

Short Strangle

Short Strangle Strategy

The Strategy

A short strangle gives you the obligation to buy the stock at strike price A and the obligation to sell the stock at strike price B if the options are assigned. You are predicting the stock price will remain somewhere between strike A and strike B, and the options you sell will expire worthless.

By selling two options, you significantly increase the income you would have achieved from selling a put or a call alone. But that comes at a cost. You have unlimited risk on the upside and substantial downside risk. To avoid being exposed to such risk, you may wish to consider using an iron condor instead.

Like the short straddle, advanced traders might run this strategy to take advantage of a possible decrease in implied volatility. If implied volatility is abnormally high for no apparent reason, the call and put may be overvalued. After the sale, the idea is to wait for volatility to drop and close the position at a profit.

Options Guy's Tip

You may wish to consider ensuring that strike A and strike B are one standard deviation or more away from the stock price at initiation. That will increase your probability of success. However, the further out-of-the-money the strike prices are, the lower the net credit received will be from this strategy.

The Setup

  • Sell a put, strike price A
  • Sell a call, strike price B
  • Generally, the stock price will be between strikes A and B

NOTE: Both options have the same expiration month.

Who Should Run It

All-Stars only

NOTE: This strategy is only for the most advanced traders who like to live dangerously (and watch their accounts constantly).

When to Run It

Uncertain You are anticipating minimal movement on the stock.

Break-even at Expiration

There are two break-even points:

  • Strike A minus the net credit received.
  • Strike B plus the net credit received.

The Sweet Spot

You want the stock at or between strikes A and B at expiration, so the options expire worthless.

Maximum Potential Profit

Potential profit is limited to the net credit received.

Maximum Potential Loss

If the stock goes up, your losses could be theoretically unlimited.

If the stock goes down, your losses may be substantial but limited to strike A minus the net credit received.

Ally Invest Margin Requirement

Margin requirement is the short call or short put requirement (whichever is greater), plus the premium received from the other side.

NOTE: The net credit received from establishing the short strangle 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 your best friend. It works doubly in your favor, eroding the price of both options you sold. That means if you choose to close your position prior to expiration, it will be less expensive to buy it back.

Implied Volatility

After the strategy is established, you really want implied volatility to decrease. An increase in implied volatility is dangerous because it works doubly against you by increasing the price of both options you sold. That means if you wish to close your position prior to expiration, it will be more expensive to buy back those options.

An increase in implied volatility also suggests an increased possibility of a price swing, whereas you want the stock price to remain stable between strike A and strike B.

Check your strategy with Ally Invest tools

  • Use the Profit + Loss Calculator to establish break-even points, evaluate how your strategy might change as expiration approaches, and analyze the Option Greeks.
  • Use the Probability Calculator to verify that both the call and put you sell are about one standard deviation out-of-the-money.
  • Examine the stock’s Volatility Charts. If you’re doing this as a volatility strategy, you want to see implied volatility abnormally high compared with historic volatility.

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