In this article, we discuss:
- What impending high volatility means option traders
- Events that cause markets to be volatile
- Why placing a long straddle trade in a period of low volatility is vital to the strategy’s success
Placing a long straddle trade can be a costly affair as an options trader has to pay premiums for the long call and the long put. Hence, to gain a profit, the price of the underlying security must move sufficiently to make up the cost of the premium paid for the options.
High impending volatility
An options trader who has placed a long straddle would want to do so during a period of low volatility in anticipation of a highly volatile period. Doing so increases the probability of turning a profit on a long straddle trade.
Events to look out for that will cause high volatility
- First Friday of the month where the employment report is released. This is volatile trading day. Some traders place a long straddle trade 2 days before this day when volatility levels are low in the market.
- Release of consumer price index (CPI) and producer price index(PPI). When these reports are released, the markets will become more volatile.
- Announcement of earnings
- Announcement of election results
An astute option trader will anticipate these events which will cause the markets to be volatile. They will place a long straddle trade when volatility is low so as to limit the premium that they have to pay. When the premium paid is low, the price of the underlying security does not need to move as much for the trade to breakeven.