The short strangle option strategy is a popular trading technique investors use to profit from a sideways market. This strategy involves selling both a call and a put option with different strike prices, allowing traders to profit from the premium received while limiting potential losses. In this guide, we'll walk you through the steps to implement this strategy effectively.

What is short strangle strategy?

The strategy of short strangle in options trading entails the sale of a put option and a call option that have varying strike prices but share the same expiration date. The goal of this strategy is to profit from the premium received from selling the options while limiting potential losses. This strategy is typically used in a sideways market, where the underlying asset is expected to remain within a certain price range.

The short strangle strategy is a popular choice for experienced options traders who are looking to generate income from their portfolios. By selling both a call option and a put option, the trader essentially bet that the underlying asset will remain within a certain price range until the expiration date. If the asset stays within this range, the trader will profit from the premium received from selling the options. However, if the asset moves outside of this range, the trader may face potential losses. It is important to carefully consider the risks and rewards of this strategy before implementing it in your own trading portfolio.

How to select the right options for the strategy

When selecting options for the short strangle strategy, it’s important to consider the strike prices and expiration dates. The strike prices should be selected based on the expected price range of the underlying asset. The expiration date should also be chosen carefully, as the longer the expiration date, the higher the premium received and the higher the potential risk. It’s important to clearly understand the market conditions and potential risks before implementing this strategy.

Setting up the trade and calculating potential profits and losses

To set up a short strangle trade, an investor would sell an out-of-the-money call option and an out-of-the-money put option on the same underlying asset with the same expiration date. The goal is for the underlying asset to remain within the strike prices of the options, allowing the investor to keep the premiums received from selling the options. 

To calculate potential profits and losses, the investor can use a break-even formula. The breakeven point for a short strangle is the strike price of the call option plus the premium received for selling the call option, minus the premium received for selling the put option, and the strike price of the put option. If the underlying asset remains within this range at expiration, the investor will make a profit. However, if the underlying asset moves outside of this range, the investor could experience significant losses. It’s important to carefully consider the potential risks and have a solid understanding of the market conditions before implementing this strategy.

Conclusion

The short strangle strategy can be a profitable way to trade in a sideways market, but it’s important to understand the potential risks and have a solid understanding of the market conditions before implementing this strategy. By selling out-of-the-money call and put options on the same underlying asset with the same expiration date, investors can potentially profit from the premiums received. However, significant losses could occur if the underlying asset moves outside of the strike prices of the options. As with any investment strategy, it’s important to research and consults with a financial advisor before making any trades.