The strangle is a very close cousin to the straddle, as it consists of simultaneous bullish and bearish trades on the same underlying stock. The idea is to profit from a big directional move, regardless of whether the stock rallies or plummets. As with a straddle, the strangle trader buys to open a call and a put on the same stock, with both options sharing the same expiration date.
However, unlike a straddle, the strangle involves a call and a put at two different strike prices. Most frequently, both strikes will be out of the money, surrounding the current stock price. By implementing this bullish volatility play with out-of-the-money options, the strangle trader can frequently obtain a lower cost of entry than the straddle player.
On the other hand, this also means the strangle trader needs a relatively bigger move out of the underlying stock just to reach breakeven -- let alone turn a profit. Not only are both option strikes out of the money to begin with, but the shares must also move far enough to offset the cost of purchasing the call and the put.
Due to these features, the strangle is best-suited only to those situations where the underlying stock seems likely to make a major directional move. Otherwise, the trader risks taking a 100% loss on both of his purchased options.
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