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How to trade Short Strangle? - IndiaNotes.com
How to trade Short Strangle?
Bonvista Financial Planners | Published: 07 Feb, 2018  | Source : IndiaNotes.com

 

Short Strangle is my favourite strategy. This strategy gives profit almost 9 times out of 10 trades.


Short Strangle is a market neutral strategy. For one to be profitable in this trade, the underlying (Nifty, Banknifty or any stock with liquid options) is expected to close within a range on expiry or at the time of closing the trade.


Lets have a look at how Strangles are traded.


This involves selling OTM (Out of the money) Call and OTM (Out of the money) Put.

The more away (OTM) you go from current price more safer is the trade and lesser are the expected returns.


Remember both the legs i.e. Call and Put are to be sold simultaneously. Do not try to time the underlying in this case.


When an Option expires Out of the money, it becomes worthless and seller keeps all the premium which he gets by selling those options.


By definition, this is limited Profit and Unlimited Loss Strategy. Do not be scared by word unlimited, we shall see the reasons later.


Lets take an example of a trade which was actually traded by me on 22nd July:


Sell Nifty 8800 Call of Aug 2015 Series @ 81

Sell Nifty 8300 Put of Aug 2015 Series @ 55


Lets look at the calculations of premium earned:


Nifty 8800 Call sold at 81 -

Option Price= 81

Lot size of Nifty= 25

Premium received = 25*81= 2025


Nifty 8300 Put sold at 55 -

Option Price= 55

Lot size of Nifty= 25

Premium received = 25*55= 1375


Total Premium Received= 1375+2025= 3400


Maximum profit in this case is total premium earned which is Rs 3400. Max profit is earned, if Nifty expires within the range of 8800 and 8300. If Nifty expires in the range of 8800 and 8300 both the Options which were sold remains out of the money. In this case both Options expire becomes zero. Hence seller keeps all the premium and earns max profit of 3400/-


However waiting till expiry is an ideal scenario. We need not wait till expiry. We can get out of the trade when we see that we have earned targeted profit.


In above trade I booked profit on 21 Aug when Nifty was trading at 8300.

(Nifty opened with a lower gap of almost 70 points on 21 Aug).

Had I booked profit on 20th August when Nifty was trading at 8375, I had earned better profit than what I earned on 21 Aug.


Nevertheless, on 21 Aug also I made substantial profits as mentioned below:


Nifty 8800 Call Option squared off at 1.35

Nifty 8300 Put Option squared off at 93


Nifty 8800 Call premium reduced drastically as Nifty had gapped down. However Nifty 8300 Put premium had gone up due the fall.


Nifty 8800 Call Profit:

= Premium Received - Premium at Squared off price

= 2025 - (1.35*25)

= 1991.25


Nifty 8300 Put Loss:

=Premium Received - Premium at square off price

=1375- (93*25)

= -950


Net Profit = 1991.25-950

= 1041.25


Margin utilized for one lot= 36000


% Profit= 1041/36000*100

=2.8%


This trade has earned 2.8% in 30 days.


I believe trading style depends on personality of a trader. If you are a conservative trader and happy with 2-5% per month. Strangle or Iron Condor is perfect strategy for you.


Note: Strangle is not a perfectly hedged strategy and can incur substantial losses in case trade goes against you. However this happens once in 10 trades and there are ways to control and recover the loss in case trade is going against you.


This is how I trade Strangles:

I trade Strangles differently with the help of Open Interest data, India VIX and Demand Supply (Support Resistance) on Nifty weekly/ monthly chart. All 3 elements explained below.


Open Interest:

I check the open interest data and try to find the strike price with highest open interest on Call side and put side. You can check Nifty Open interest on NSE website here.

Note: Open Interest keeps on changing everyday and you need to keep close track of it.


India VIX:

This is volatility index. When India VIX trades below 16, one can assume that markets are stable. In case IndiaVIX is above 16 and below 22 markets are volatile. When markets are stable, Option premiums are deflated (you will get less premium selling option). When markets are volatile Option premium are inflated (you will get good premiums selling options).

It is better to Sell Strangle if India VIX is trading above 16.

However if IndiaVIX is trading above 22-23 you can assume that markets are very volatile. In this scenario avoid trading Options.  


Demand and Supply:

Demand and Supply can be identified with the help of Technical Charts. This is technique to precisely identify areas where institutional (big) players place their orders. There an element of speculation involved in identifying these areas. However this works very precisely.

So I use the strike price of Call near Supply area and strike price of Put near Demand area.


I conduct one day Crash Course on Demand Supply. Read the details here.


Important tips for trading Short Strangles:

1. Premium of farther strikes say 400-500 points away from current price starts decaying fast after first 15 days of the series

2. India VIX increases before important event and drops fast immediately after the event.

3. One can adjust the strike prices if trade is going against.

4. Move out of the trade if you are getting the profit around 3%

5. It is risky to trade Short Strangles in Stock Options because of the risk of gap up and gap down.

6. You get max premium in initial days of series (near month). However it is suggested to scale up positions in staggered manner.


Point of unlimited loss:

There can never be unlimited loss. If the trade is going against you, you can always get out of the trade. Decide the max loss you will take in any trade. Exit if the loss is going beyond what you have decided. To cover this loss you can always enter into different safer strike.   


I provide advisory in equity (Swing / Positional) for conservative returns (objective is to earn 2-3% monthly) with only 4-5 trades per month. Also conduct training programs for Basics of stock market + technical analysis, Demand & Supply and Options.


In case you have any query so you can contact us at support@bonvista.in or www.bonvista.in

 



About Bonvista Financial Planners
Bonvista Financial Planners, a stock market consultancy and training company is run by Unmesh Deshmukh, an expert in Equity- Cash, Futures and Options. Unmesh is a rare combination of Financial Planner and a Technical Analyst. His trading has 'Portfolio Approach' instead of 'a la carte' recommendations. Bonvista Financial Planners can be accessed at www.bonvista.in. Unmesh also updates his blog regularly at bonvistaplanners.blogspot.in.

For more information please write in to bonvistaplanners@gmail.com

Disclaimer: The author has taken due care and caution to compile and analyse the data. The opinions expressed above are only the views of the author, and not a recommendation to buy or sell. Neither the author nor IndiaNotes.com accept any liability whatsoever arising from the use of any of the above contents.