Calendar Strangle

: Summary


Calendar Strangle Risk Graph
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Calendar Strangle - Introduction


The Calendar Strangle is a neutral options strategy designed to profit when a stock is expected to moved within a tight channel in the short term while still keeping the potential for profiting should the stock stage a breakout. The Calendar Strangle produces this effect by buying a long term Strangle while writing a short term Strangle.

Indeed, the Calendar Strangle is a Calendar Spread that optimizes profit through the higher rate of time decay of the short term Strangle versus the long term Strangle while allowing you the option of simply keeping the long term Strangle by closing the short term Strangle anytime the underlying stock is expected to stage an explosive breakout. The Calendar Strangle is a cousin of the Calendar Straddle which works on the same principles but the Calendar Strangle has the advantage of a wider profitable range on the short term strangle at the cost of a lower potential profit.

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When To Use Calendar Strangle?


One should use a Calendar Strangle when the underlying stock is expected to remain within a fairly narrow range in the short term while expected to stage a breakout in either direction in the longer run. This is especially useful leading up to a potential volatile event which is due in a few months. Such events may be important court verdicts or results of an important R&D development. The few months leading up to such an event would see implied volatility increase steadily, resulting in higher extrinsic values, especially for out of the money options, and steadier price levels which favors short term short Strangles. On the month of the volatile event itself, the short term Strangle could be closed and the longer term Strangle held on to in order to profit from the expected breakout due to the volatile event.





How To Use Calendar Strangle?


Calendar Strangles simply consist of a near term Short Strangle and a longer term long Strangle. This means buying longer term out of the money call and put options while shorting the same amount of nearer term out of the money call and put options.

Buy Long Term OTM Call + Buy Long Term OTM Put + Short Near Term OTM Call + Short Near Term OTM Put


Calendar Strangle Example :

Assuming XYZ trading at $44. It is February and XYZ is awaiting an important court verdict in June.
Its Jun45Call is quoted at $1.50, its Jun43Put is quoted at $1.30, its Mar45Call is quoted at $0.55 and its Mar43Put is quoted at $0.50.
Buy To Open QQQQ Jun45Call, buy To Open QQQQ Jun43Put
Sell To Open QQQQ Mar45Call, sell To Open QQQQ Mar43Put

Net Effect: ($1.50 + $1.30) - ($0.55 + $0.50) = $1.75 net debit.

In the above example, the Calendar Strangle is used to profit from the rising short term extrinsic values of the near term short Strangles while having a June long Strangle in place for the court verdict in June. In this case, new short term Strangles would be written for the month of April and May while in the end leaving the June long Strangle open for the court verdict which will either explode the stock price upwards or downwards.

This is the same hypothetic example used in the Calendar Straddle tutorial and as you can see, the net debit of the Calendar Strangle is much lower than that of the Calendar Straddle.



Profit Potential of Calendar Strangle:


You would notice above that the Calendar Strangle has the potential to make money in 2 ways; 1, through the higher rate of time decay between the short Strangle and the long Strangle. 2, through the long Strangle on a price breakout. Unless the Calendar Strangle is placed based on an expected volatile event sometime in the future so that eventually the long Strangle position can be made used of for profit, there are better neutral options strategies for use on stocks that are totally not expected to stage any breakouts.



Profit Calculation of Calendar Strangle:


Maximum Profit = Difference in time decay between short term Strangle and long term Strangle. Specific prices needs to be calculated using an options pricing model such as the Black-Scholes Model.

Maximum Loss Possible = Net Debit Paid

Calendar Strangle Example Continued :

Maximum Loss Possible = $1.75




Risk / Reward of Calendar Strangle:



Maximum Profit: Limited in the short term when near term short Strangles are written. Unlimited in the long term when the position is transformed into a simple long Strangle.

Maximum Loss: Limited to net debit. This happens when the underlying stock stages an explosive breakout in either direction.



Break Even Points (Profitable Range) of Calendar Strangle:


Breakeven points of Calendar Strangle can only be determined through the use of an options pricing model such as the Black-Scholes Model.



Advantages Of Calendar Strangle:



:: Able to profit when stock remains stagnant for the short term

:: Flexibility to transform the position into a long Strangle when the stock is expected to stage a breakout.

:: Loss is limited.

:: No margin needed.



Disadvantages Of Calendar Strangle:



:: The position would result in a loss should the stock stage a breakout suddenly.

:: There are 4 legs to this trade which may require legging into the position in order to ensure or enhance profitability.



Alternate Actions for Calendar Strangle Before Expiration :



1. If the underlying stock is expected to stage a breakout soon, simply allow the short Strangle to expire without rolling forward or closing out the short Strangle. This transforms the position into a Long Strangle which profits when the underlying stock breaks out to upside or downside.


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