Comparative return distributions: Strangles versus straddles.
Straddles and strangles are option strategies holding an equal number of puts and calls. The straddle holds options with a strike price, closest to the current stock price. The strangle holds out-of-the-money options. On a per option basis the strangle has less invested risk, at the cost of lower possible dollar return which is the comparison made in extant comparisons using profit diagrams, emphasize this comparison. But an investor is concerned with return on investment, not per unit dollar return. On a return basis, the lower cost of the strangle provides leverage, more risk and greater potential return. An empirical study shows the strangle with greater risk and return potential leading us to propose the use of return diagrams in place of profit diagrams.
Academy of Economics and Finance & the Department of Economics and Finance. University of North Carolina Wilmington
Pettengill, G. & Sundaram, S. (2016). Comparative return distributions: Strangles versus straddles. Academy of Economics and Finance Journal, 7, 63-72.
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