An option straddle is a useful strategy when you know a stock is going to move but you are not sure in which direction. A long straddle consists of buying a call option and a put option with the same strike price and the same expiration date. If the stock makes a significant move in either direction, the profit from the winning option will exceed the loss on the losing option.
Use a stock screener to find a suitable volatile stock with options. Under the Beta heading, enter 2, 3 or 4. At the options heading, select "Yes," then run the screener. Analyze the list of stocks, select one you deem suitable for a straddle trade and enter the company stock symbol in the search window. Click on "Options" to bring up the list of available option expiration dates. Make your selection and click on the link to bring up the option chain.
Select an "at the money" call option. For example, if the stock is trading at $50 a share, select an at-the-money call option with a strike price of $50. On the put side, select an at-the-money put option with a strike price of $50. You can also select a strike price farther from the stock price if you have a directional bias. Just make sure before entering your trade that the call and put strike prices are the same and that both options have the same expiration date.
Monitor the trade closely since the stock you selected has a high beta. Any sudden price move up or down will put one of your options in the money. If you selected an expiration date with significant time remaining, the stock could move enough in both directions to make your call and put options profitable.
- Beta measures how volatile a single stock is compared to the broad market. If the market moves 1 percent, a stock with a beta of 1 will move 1 percent. If the market moves 1 percent, a stock with a beta of 2 will move 2 percent.
- High-beta stock prices move fast and if you wait too long to close a trade your profit could disappear. Determine your profit target in advance and close your trade when the target is met.
Based in St. Petersburg, Fla., Karen Rogers covers the financial markets for several online publications. She received a bachelor's degree in business administration from the University of South Florida.