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16. Short Strangle
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Scenario:
This trader finds current implied volatility at relatively high levels. The expectation now is for a very lackluster trading month with no trend, and reduced volatility. The trader could sell a straddle, but feels more comfortable with the wider range of maximum profit of the short strangle.
Specifics
| Underlying Futures Contract: | March Lumber | |
| Futures Price Level: | 185.00 | |
| Days to Futures Expiration: | 65 | |
| Days to Options Expiration: | 45 | |
| Option Implied Volatility: | 19.4% | |
| Option Position: | Short 1 Mar 200.00 Call | + 0.80 ($120.00) |
| Short 1 Mar 170.00 Put | + 0.60 ($ 90.00) | |
| + 1.40 ($210.00) |
At Expiration:
| Breakeven: | Downside: 168.60 (170.00 strike - 1.40 credit). Upside: 201.40 (200.00 strike + 1.40 credit). |
| Loss Risk: | Unlimited; losses continue to mount as futures fall below 168.60 breakeven or rise above 201.40 breakeven. |
| Potential Gain: | Maximum gains occur between strikes (a 30.00 range of maximum profit). |
Things to Watch:
There is a high probability that futures will expire in this range, thereby yielding the maximum profit. However, the profit received is relatively small for the amount that could be at risk if futures were to rally or drop sharply. Assignment of a futures position transforms this strategy into a synthetic short call or synthetic short put.
Follow-up Trading Strategies
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