Home Business All-about guide on the Short Call Butterfly Strategy

All-about guide on the Short Call Butterfly Strategy

When it comes to options trading, there are numerous strategies available to traders. One of the most popular strategies is the short strangle. It falls under the derivative trading strategies

  • The short strangle strategy is a neutral strategy that involves selling both a call option and a put option at the same time. 
  • This strategy is often used in markets with high volatility, where traders want to profit from the range-bound price movements of the underlying asset. 
  • Most of the financial institutions offering a well-developed platform support trading with this unique strategy. 

All about Short Call Butterfly Strategy: Meaning and Definition

A trading method known as the short strangle involves simultaneously selling a put option and a call option that are both out of the money. The term”out-of-the-money” describes options with strike prices that are not very near to the current market value of the underlying asset. The strategy’s objective is to profit from the underlying asset’s range-bound price fluctuations as well as the premium gained from selling the two options.

To understand the short strangle strategy, it is important to understand the concept of strike prices. A strike price is the price at which the option can be exercised. If the option is a call option, the option holder has the right to buy the underlying asset at the strike price. 

The call option and put option are sold at strike prices that are not very near to the current market value of the underlying asset in a short strangle strategy. This establishes a price range where the underlying asset must trade in order for the approach to be profitable. The “breakeven point” is the distinction between both strike prices. The trader makes money from the premiums received from selling the options if the value of the underlying asset stays within this range.

The Benefits and the Aassociated Risks

The short strangle strategy has several benefits. 

  • First, it is a neutral strategy that can be used when traders expect the price of the underlying asset to remain within a specific range. 
  • Second, it allows traders to profit from the range-bound price movements of the underlying asset. 
  • Third, it can be a profitable strategy when there is high volatility in the market. This is because the premiums received from selling the options can be high.

The short strangle technique, however, also has a number of hazards. 

  • If the value of the underlying asset goes outside the range defined by the two strike prices, there can be huge losses. This is because, regardless of the current market price, the trader has to purchase or sell the underlying asset at the options’ strike price. 
  • Also, the approach has high margin requirements since traders must have sufficient funds to offset any possible losses.

How to Use the Short Strangle Technique: 5 Steps You Need To Go Through

The steps below are what traders commonly take to implement the short strangle strategy:

Step 1: Choose an underlying asset with significant volatility that is anticipated to stay within a certain range in step one.

Step 2: Establish the call and put options’ strike prices. These ought to be unprofitable choices.

Step 3: Sell both the call and put options at the same time.

Step 4:  The next step in the process is to collect the premiums from the options sales.

Step 5: Keep an eye on the underlying asset’s price to make sure it stays inside the range established by the two strike prices.

Conclusion

The short strangle strategy is an options trading strategy used by traders to profit from the range-bound price movements of the underlying asset. The strategy involves selling both a call option and a put option at the same time, with strike prices that are out-of-the-money. The strategy has several benefits, including its neutrality, its ability to profit from range-bound price movements, and its potential profitability in high-volatility markets. However, the strategy also has several risks, including the potential for unlimited losses if the price of the underlying asset moves outside the range created by a trader.

A good trading platform with accurate and timely price-change notifications can be of help.  Download free stock trading app Share India from play store or App store and start your investment in just few clicks.

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