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Strip strangle - Introduction
The Strip strangle, also known simply as a Strip, is a
long strangle which buys more put options than call options and has a bearish inclination. As a
Volatile Options Strategy, Strip strangles are useful
when the direction of a breakout is uncertain but is inclined to downside. Strip strangles can also be used to balance strangles into
delta neutral positions. Strip strangles make a higher profit than a regular strangle when the underlying stock breaks downwards but will make a lesser profit
than a regular strangle when the underlying stock breaks downwards.
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Main Differences Between Strip strangle and Regular Long strangle
The main difference between the Strip strangle and the regular long strangle is that Strip strangles buys more
put options than
call options. A regular long strangle buys the same number of
out of the money put options and call options and has a symmetrical risk graph with equal profit to upside and downside. Strip strangles buy more out of the money put options than call options, resulting in a
risk graph with steeper gains to downside than upside. Strip strangles would also have a farther upside breakeven point than downside as the lesser call options need to overcome the premium cost of more put options.
Strip strangle Versus Regular strangle Example
Assuming QQQQ trading at $43.57.
Assuming Jan $44 Call costs $1.80 and Jan $43 Put costs $1.63
Regular Long strangle
Buy To Open 1 contract of Jan $44 Call at $1.80
Buy To Open 1 contract of Jan $43 Put at $1.63.
Net Debit = 1.80 + 1.63 = $3.43
Strip strangle
Buy To Open 1 contract of Jan $44 Call at $1.80
Buy To Open 2 contracts of Jan $43 Put at $1.63.
Net Debit = 1.80 + (1.63 x 2) = $5.06
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The regular strangle can also be given a bullish inclination through buying more call options than put options, creating a
Strap strangle. Strip strangle and Strap strangle are the two variants of the strangle that options traders can use to introduce a bearish or bullish inclination to their strangles.
Main Difference Between Strip Strangle and Strip Straddle
The
Strip Straddle is a cousin of the Strip strangle and it too buys more put options than call options. The main difference between a strip strangle and a strip straddle is that a strip strangle buys out of the money options instead of at the money options. This made the strip strangle cheaper in terms of net debit than the strip straddle but it also made the breakeven points further away. As such, strip strangles are a better choice only when the underlying stock is expected to make a breakout of significant magnitude.
When To Use Strip strangle?
One should use a Strip strangle when one speculates that an uncertain stock might breakout to downside .
How To Use Strip strangle?
Buy to Open
Out of The Money (OTM) Call Options and Buy to Open more Out of The Money (OTM) Put options.
Typically, twice as much put options are bought than call options in a Strip Strangle.
Strip strangle Example
Assuming QQQQ trading at $43.57.
Buy To Open 1 contract of Jan $44 Call at $1.80
Buy To Open 2 contracts of Jan $43 Put at $1.63.
Net Debit = 1.80 + (1.63 x 2) = $5.06
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Trading Level Required For Strip Strangle
A Level 2 options trading account that allows the buying of call and put options is needed for the Strip Strangle. Read more about Options Account Trading Levels.
Profit Potential of Strip strangle :
Strip strangles have unlimited profit potential as long as the stock continues moving in one direction.
Profit Calculation of Strip strangle:
Profit = [(Difference between stock price and nearest strike prise) x number of call options (if stock is higher) or number of put options (if stock is lower)] - net debit
Maximum Loss = Net debit when stock closes at the options strike price.
From the above example :
Assuming QQQQ Drops To $30
Profit = [(43 - 30) x 2] - 5.06 = 26 - 5.06 = $20.94 or 414%
Maximum Loss = $5.06
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Risk / Reward of Strip strangle:
Upside Maximum Profit: Unlimited
Maximum Loss: Limited
Breakeven Points of Strip strangle:
A Strip strangle makes a profit if it goes above its upper breakeven point or below its lower breakeven point.
Upper Breakeven Point = Call Strike + net debit
Lower Breakeven Point = Put Strike - (net debit/[number of put options/number of call options])
From the above example :
Upper Breakeven Point: 44 + 5.06 = $49.06
Lower Breakeven Point: 43 - (5.06/[2/1]) = 43 - 2.53 = $40.47
You would notice at this point that a Strip strangle has a closer lower breakeven point than its upper breakeven point. This is the effect of buying more put options than call options.
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Advantages Of Strip strangle:
:: Higher profit than a regular strangle if stock breaks out to downside.
:: Closer lower breakeven point.
:: Lower net debit than a Strip Straddle.
Disadvantages Of Strip strangle:
:: Higher minimal cash outlay needed.
:: Higher maximum loss than a regular strangle.
:: Further upper breakeven point than a Strip Straddle.
Alternate Actions for Strip strangles Before Expiration :
1. If the underlying asset has dropped in price and is expected to continue dropping, you could sell to close the call Options and
hold the long Put Options.
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