Derivative Options- Trading Strategies

OPTION TRADING STRATEGIES: There are a number of strategies employed by various investors in order to protect their profits and restrict their losses. Therefore out of all the strategies available different combinations are used according to investors’ objective.

Option trading strategies can be for single options or single stock i.e. covered put, covered call, protective put and protective call. On the other hand there are some strategies for multiple options of same type i.e. bull spread, bear spread, and butterfly spread as well as for multiple options for different types i.e. straddle, strangle

Single Option or Single Stock:

1.  Covered Call:

Covered call entails a call writer to write call on the stock that writer holds. When the option seller does not hold the stock, it is called naked call. On the other hand in covered call option seller already owns the security that he sells hence limits the losses.

A covered call is suitable in a situation when a stock has good long term potential but in short term not expected to perform well. Therefore no income is expected in short term and writing covered call fetched additional premium to the writer. So as the stock does not perform well in short term, the buyer of the option will not exercise the call option and the writer of the option will keep, who has a long term perspective for that stock. Therefore covered call is written only when option seller has a bullish view.

For example: An investor holds 200 stocks of SBI, bought at the price of Rs. 2050. He writes a call at Rs. 2200 for May 31 expiry. It fetches a premium of Rs. 10.

His position at various price points will be as follows:

	Rs.	Rs.	Rs.
PRICE OF SBI IN FUTURE	2000	2200	2400
MAY 31 2250 CALL
ACQUISITION PRICE	2050	2050	2050
PREMIUM RECEIVED	5	5	5
BREAK EVEN	2045	2045	2045
PROFIT/LOSS	-50	150	150
TOTAL PROFIT/LOSS	-45	155	155
AFTER PREMIUM IS ADJUSTED

In case of price becoming Rs. 2000 option seller has a position of loss but it is short term therefore long term perspective may serve the purpose. In other two cases option buyer will exercise the option and will buy at a strike price of Rs. 2200 and therefore option seller will be in position of profit but limited.

2.  Covered Put:

This strategy is opposite to a Covered Call. A Covered Call is a neutral to bullish strategy, whereas a Covered Put is a neutral to bearishstrategy. This strategy is usually applied when one expects the prices to stay within a range or move down. Covered Put writing involves a short in a stock along with a short Put on the options on the stock.

The Put that is sold is generally an OTM Put. The investor shorts a stock because he isbearish about it, but he can also buy it back once the price reaches (falls to) a targetprice. This target price is the price at which the investor shorts the Put (Put strike price).Selling a Put means, buying the stock at the strike price if exercised according to short put. If thestock falls below the Put strike, the option will be exercised and will have to buy the stockat the strike price (which is anyway his target price to repurchase the stock). The investormakes a profit because he has shorted the stock and purchasing it at the strike price simplycloses the short stock position at a profit. And the investor keeps the Premium on the Putsold. The investor is covered here because he shorted the stock in the first place.

If the price does not change investor gets to keep the premium.

This strategy is used when investor’s view is of moderately bearish. If the price of the stocks goes up, risk associated is unlimited, whereas the reward is computed as Sales price of stock- strike price +Premium charged.

For example:

Suppose a stock A Ltd is trading at 2000 in June. An investor shorts Rs. 1900 Put by selling a July Put for a premium of Rs. 50. Therefore net amount credited will be Rs. 2050.

The payoff schedule will be:

Stock A	payoff from Stock	Net Payoff From	Net Payoff
Close Price		Put Option
1600	400	-250	150
1780	220	-70	150
1850	150	0	150
1900	100	50	150
2000	0	50	50
2100	-100	50	-50
2200	-200	50	-150

3.  Long Straddle:

A Straddle is a volatility strategy and is used when the stock price is expected toshow large movements. This strategy involves buying a call as well as put on the samestock for the same maturity and strike price, to take advantage of a movement ineither direction, a soaring or plummeting value of the stock. If the price of the stockincreases, the call is exercised while the put expires worthless and if the price of thestock decreases, the put is exercised, the call expires worthless. Either way if thestock shows volatility to cover the cost of the trade, profits are to be made. WithStraddles, the investor is directionally neutral. All that he is looking out for is the stock to break out exponentially in either direction.

This strategy is used when the investor thinks that the underlying stock will experience significant volatilityin the near term. Risk is limited to the initial premium paid.

Suppose Nifty is at 4450 on 27th April. An investor, Mr. A enters a long straddle by buying a May Rs 4500 Nifty Put for Rs. 85 and a May Rs. 4500 Nifty Call for Rs. 122. The net debit taken to enter the trade is Rs 207, which is also his maximum possible loss.

The payoff schedule will be as follows:

On expiry	Net Payoff	Net Payoff	Net Payoff
Nifty closes at	from Put	From Call
3800	615	-122	493
3900	515	-122	393
4000	415	-122	293
4100	315	-122	193
4200	215	-122	93
4234	181	-122	59
4293	122	-122	0
4300	115	-122	-7
4400	15	-122	-107
4500	-85	-122	-207
4600	-85	-22	-107
4700	-85	78	-7
4707	-85	85	0
4766	-85	144	59
4800	-85	178	93
4900	-85	278	193
5000	-85	378	293
5100	-85	478	393
5200	-85	578	493
5300	-85	678	593

4.  Short Straddle:

A Short Straddle is the opposite of Long Straddle. It is a strategy to be adopted when the investor feels the market will not show much movement. He sells a Call and a Put on the same stock for the same maturity and strike price. It creates a net income for the investor. If the stock does not move much in either direction, the investor retains the Premium as neither the Call nor the Put will be exercised. However, in case the stock moves in either direction, up or down significantly, the investor’s losses can be significant. So this is a risky strategy and should be carefully adopted and only when the expected volatility in the market is limited. If the stock value stays close to the strike price on expiry of the contracts, maximum gain, which is the Premium received is made.

Therefore this strategy is applied whenthe investor thinks that the underlying stock willexperience very little volatility in thenear term.

For Example:

Suppose Nifty is at 4450 on 27th April. Aninvestor, Mr. A, enters into a short straddle byselling a May Rs 4500 Nifty Put for Rs. 85 anda May Rs. 4500 Nifty Call for Rs. 122. The netcredit received is Rs. 207, which is also hismaximum possible profit.

The payoff schedule:

On expiry Nifty	Net Payoff from Put	Net Payoff from Call	Net Payoff
closes at	Sold (Rs.)	Sold (Rs.)	(Rs.)
3800	-615	122	-493
3900	-515	122	-393
4000	-415	122	-293
4100	-315	122	-193
4200	-215	122	-93
4234	-181	122	-59
4293	-122	122	0
4300	-115	122	7
4400	-15	122	107
4500	85	122	207
4600	85	22	107
4700	85	-78	7
4707	85	-85	0
4766	85	-144	-59
4800	85	-178	-93
4900	85	-278	-193
5000	85	-378	-293

5.  Long Strangle:

A Strangle is a slight modification to the Straddle to make it cheaper to execute. Thisstrategy involves the simultaneous buying of a slightly out-of-the-money (OTM) put and aslightly out-of-the-money (OTM) call of the same underlying stock / index and expirationdate. Here again the investor is directional neutral but is looking for an increased volatilityin the stock / index and the prices moving significantly in either direction. Since OTMoptions are purchased for both Calls and Puts it makes the cost of executing a Stranglecheaper as compared to a Straddle, where generally ATM strikes are purchased. Since theinitial cost of a Strangle is cheaper than a Straddle, the returns could potentially be higher.However, for a Strangle to make money it would require greater movement on the upsideor downside for the stock / index than it would for a Straddle. As with a Straddle, thestrategy has a limited downside (i.e. the Call and the Put premium) and unlimited upsidepotential.

For Example:

Suppose Nifty is at 4500 in May. An investor, Mr.A, executes a Long Strangle by buying a Rs. 4300Nifty Put for a premium of Rs. 23 and a Rs 4700Nifty Call for Rs 43. The net debit taken to enterthe trade is Rs. 66, which is also his maxi mumpossible loss.

Pay off Schedule:

On expiry	Net Payoff from Put	Net Payoff from Call	Net Payoff
Nifty closes at	purchased (Rs.)	purchased (Rs.)	(Rs.)
3800	477	-43	434
3900	377	-43	334
4000	277	-43	234
4100	177	-43	134
4200	77	-43	34
4234	43	-43	0
4300	-23	-43	-66
4400	-23	-43	-66
4500	-23	-43	-66
4600	-23	-43	-66
4700	-23	-43	-66
4766	-23	23	0
4800	-23	57	34
4900	-23	157	134
5000	-23	257	234
5100	-23	357	334
5200	-23	457	434
5300	-23	557	534

6.  Short Strangle:

A Short Strangle is a slight modification to the Short Straddle. It tries to improve the profitability of the trade for the Seller of the options by widening the breakeven points so that there is a much greater movement required in the underlying stock / index, for the Call and Put option to be worth exercising. This strategy involves the simultaneous selling of a slightly out-of-the-money (OTM) put and a slightly out-of-the-money (OTM) call of the same underlying stock and expiration date. This typically means that since OTM call and put are sold, the net credit received by the seller is less as compared to a Short Straddle, but the break even points are also widened. The underlying stock has to move significantly for the Call and the Put to be worth exercising. If the underlying stock does not show much of a movement, the seller of the Strangle gets to keep the Premium.

For Example

Suppose Nifty is at 4500 in May. An investor,Mr. A, executes a Short Strangle by selling a Rs.

4300 Nifty Put for a premium of Rs. 23 and a Rs.4700 Nifty Call for Rs 43. The net credit is Rs.66, which is also his maximum possible gain.

Payoff schedule will be as follows:

On expiry Nifty	Net Payoff from Put	Net Payoff from Call	Net Payoff
closes at	Sold (Rs.)	Sold (Rs.)	(Rs.)
3800	-477	43	-434
3900	-377	43	-334
4000	-277	43	-234
4100	-177	43	-134
4200	-77	43	-34
4234	-43	43	0
4300	23	43	66
4400	23	43	66
4500	23	43	66
4600	23	43	66
4700	23	43	66
4707	23	36	59
4766	23	-23	0
4800	23	-57	-34
4900	23	-157	-134
5000	23	-257	-234
5100	23	-357	-334
5200	23	-457	-434
5300	23	-557	-534

7.  Collar:

A Collar is similar to Covered Call but involves another leg – buying a Put toinsure against the fall in the price of the stock. It is a Covered Call with a limited risk. So aCollar is buying a stock, insuring against the downside by buying a Put and then financing(partly) the Put by selling a Call.

The put generally is ATM and the call is OTM having the same expiration month and must beequal in number of shares. This is a low risk strategy since the Put prevents downside risk.However, do not expect unlimited rewards since the Call prevents that. It is a strategy to beadopted when the investor is conservatively bullish. The following example should makeCollar easier to understand.

The collar is a good strategy to use if the investor is writing covered calls to earn premiums but wishes to protect him from an unexpected sharp drop in the price of the underlying security.

Suppose an investor Mr. A buys or is holding ABCLtd. currently trading at Rs. 4758. He decides toestablish a collar by writing a Call of strike priceRs. 5000 for Rs. 39 while simultaneouslypurchasing a Rs. 4700 strike price Put for Rs. 27.Since he pays Rs. 4758 for the stock ABC Ltd., another Rs. 27 for the Put but receives Rs. 39 forselling the Call option, his total investment is Rs.4746.

1) If the price of ABC Ltd. rises to Rs. 5100 after a month, then,

a. Mr. A will sell the stock at Rs. 5100 earning him a profit of Rs. 342 (Rs. 5100 – Rs. 4758)

b. Mr. A will get exercised on the Call he sold and will have to pay Rs. 100.

c. The Put will expire worthless.

d. Net premium received for the Collar is Rs. 12

e. Adding (a + b + d) = Rs. 342 -100 – 12 = Rs. 254

This is the maximum return on the Collar Strategy. However, unlike a Covered Call, the downside risk here is also limited:

2) If the price of ABC Ltd. falls to Rs. 4400 after a month, then,

a. Mr. A loses Rs. 358 on the stock ABC Ltd.

b. The Call expires worthless

c. The Put can be exercised by Mr. A and he will earn Rs. 300

d. Net premium received for the Collar is Rs. 12

e. Adding (a + b + d) = - Rs. 358 + 300 +12 = - Rs. 46

This is the maximum the investor can loose on the Collar Strategy.

The Upside in this case is much more than the downside risk.

The payoff schedule will be as follows:

ABC Ltd. closes	Payoff from	Payoff from	Payoff from	Net payoff
at (Rs.)	Call Sold (Rs.)	Put Purchased (Rs.)	ABC Stock	(Rs.)
4400	39	273	-358	-46
4450	39	223	-308	-46
4500	39	173	-258	-46
4600	39	73	-158	-46
4700	39	-27	-58	-46
4750	39	-27	-8	4
4800	39	-27	42	54
4850	39	-27	92	104
4858	39	-27	100	112
4900	39	-27	142	154
4948	39	-27	190	202
5000	39	-27	242	254
5050	-11	-27	292	254
5100	-61	-27	342	254
5150	-111	-27	392	254
5200	-161	-27	442	254
5248	-209	-27	490	254
5250	-211	-27	492	254
5300	-261	-27	542	254

8.  Bull Call Spread Strategy: Buy Call Option, Sell Call Option

A bull call spread is constructed by buying an in-the-money (ITM) call option, and selling another out-of-the-money (OTM) call option. Often the call with the lower strike price will be in-the-money while the Call with the higher strike price is out-of-the-money. Both calls must have the same underlying security and expiration month.

The net effect of the strategy is to bring down the cost and breakeven on a Buy Call (Long Call) Strategy. This strategy is exercised when investor is moderately bullish to bullish, because the investor will make a profit only when the stock price rises. If the stock price falls to the lower (bought) strike, the investor makes the maximum loss (cost of the trade) and if the stock price rises to the higher (sold) strike, the investor makes the maximum profit. Let us try and understand this with an example.

Mr. XYZ buys a Nifty Call with a Strike price Rs. 4100 at a premium of Rs. 170.45 and he Sells a Nifty Call option with a strike price Rs. 4400 at a premium of Rs. 35.40. The net debit here is Rs. 135.05 which is also his maximum loss.

The payoff schedule:

On expiry	Net Payoff from Call	Net Payoff from	Net Payoff
Nifty Closes at	Buy (Rs.)	Call Sold (Rs.)	(Rs.)
3500	-170.45	35.4	-135.05
3600	-170.45	35.4	-135.05
3700	-170.45	35.4	-135.05
3800	-170.45	35.4	-135.05
3900	-170.45	35.4	-135.05
4000	-170.45	35.4	-135.05
4100	-170.45	35.4	-135.05
4200	-70.45	35.4	-35.05
4235.05	-35.4	35.4	1.918
4300	29.55	35.4	64.95
4400	129.55	35.4	164.95
4500	229.55	-64.6	164.95
4600	329.55	-164.6	164.95
4700	429.55	-264.6	164.95
4800	529.55	-364.6	164.95
4900	629.55	-464.6	164.95
5000	729.55	-564.6	164.95
5100	829.55	-664.6	164.95
5200	929.55	-764.6	164.95

9.  Bull Put Spread Strategy: Sell Put Option, Buy Put Option

A bull put spread can be profitable when the stock is either range bound or rising.The concept is to protect the downside of a Put sold by buying a lower strike Put, which actsas insurance for the Put sold. The lower strike Put purchased is further OTM than thehigher strike Put sold ensuring that the investor receives a net credit, because the Putpurchased (further OTM) is cheaper than the Put sold. This strategy is equivalent to the BullCall Spread but is done to earn a net credit (premium) and collect an income. If the stock rises, both Puts expire worthless and the investor can retain thePremium. If the stock falls, then the investor’s breakeven is the higher strike lessthe net credit received. Provided the stock remains above that level, the investor makes aprofit. Otherwise he could make a loss. The maximum loss is the difference in strikes lessthe net credit received. This strategy should be adopted when the stock trend isupward or range bound.

For example: Mr. XYZ sells a Nifty Put option with a strike price ofRs. 4000 at a premium of Rs. 21.45 and buys afurther OTM Nifty Put option with a strike price Rs.3800 at a premium of Rs. 3.00 when the currentNifty is at 4191.10, with both options expiring on31st July.

The payoff schedule:

On expiry Nifty	Net Payoff from Put	Net Payoff from	Net Payoff
Closes at	Buy (Rs.)	Put Sold (Rs.)	(Rs.)
3500	297	-478.55	-181.55
3600	197	-378.55	-181.55
3700	97	-278.55	-181.55
3800	-3	-178.55	-181.55
3900	-3	-78.55	-81.55
3981	-3	3	0
4000	-3	21.45	18.45
4100	-3	21.45	18.45
4200	-3	21.45	18.45
4300	-3	21.45	18.45
4400	-3	21.45	18.45
4500	-3	21.45	18.45
4600	-3	21.45	18.45
4700	-3	21.45	18.45
4800	-3	21.45	18.45

10.       Bear Call SpreadStrategy: Sell ITM Call, Buy OTM Call

The Bear Call Spread strategy can be adopted when the investor feels that the stock is either range bound or falling. The concept is to protect the downside of a Call Sold bybuying a Call of a higher strike price to insure the Call sold. In this strategy the investorreceives a net credit because the Call he buys is of a higher strike price than the Call sold.The strategy requires the investor to buy out-of-the-money (OTM) call options whilesimultaneously selling in-the-money (ITM) call options on the same underlying stock index.This strategy can also be done with both OTM calls with the Call purchased being higherOTM strike than the Call sold. If the stock falls both Calls will expire worthless andthe investor can retain the net credit. If the stock rises then the breakeven is thelower strike plus the net credit. Provided the stock remains below that level, the investormakes a profit. Otherwise he could make a loss. The maximum loss is the difference instrikes less the net credit received.

For Example:

Mr. XYZ is bearish on Nifty. He sells an ITM call option with strike price of Rs. 2600 at a premium of Rs. 154 and buys an OTM call option with strike price Rs. 2800 at a premium of Rs. 49.

Payoff Schedule:

On expiry	Net Payoff from Call	Net Payoff from Call	Net Payoff
Nifty Closes at	Sold (Rs.)	bought (Rs.)	(Rs.)
2100	154	-49	105
220	154	-49	105
2300	154	-49	105
2400	154	-49	105
2500	154	-49	105
2600	154	-49	105
2700	54	-49	5
2705	49	-49	0
2800	-46	-49	-95
2900	-146	51	-95
3000	-246	151	-95
3100	-346	251	-95
3200	-446	351	-95
3300	-546	451	-95

The strategy earns a net income for the investor as well as limits the downside risk of a Callsold.

11.  Bear Put Spread Strategy: Buy Put, Sell Put

This strategy requires the investor to buy an in-the-money (higher) put option and sell anout-of-the-money (lower) put option on the same stock with the same expiration date. Thisstrategy creates a net debit for the investor. The net effect of the strategy is to bring downthe cost and raise the breakeven on buying a Put (Long Put). The strategy needs a Bearishoutlook since the investor will make money only when the stock price falls. Thebought Puts will have the effect of capping the investor’s downside. While the Puts sold willreduce the investors costs, risk and raise breakeven point (from Put exercise point of view).If the stock price closes below the out-of-the-money (lower) put option strike price on theexpiration date, then the investor reaches maximum profits. If the stock price increasesabove the in-the-money (higher) put option strike price at the expiration date, then theinvestor has a maximum loss potential of the net debit

For Example:

Nifty is presently at 2694. Mr. XYZ expects Nifty tofall. He buys one Nifty ITM Put with a strike priceRs. 2800 at a premium of Rs. 132 and sells oneNifty OTM Put with strike price Rs. 2600 at apremium Rs. 52.

The payoff schedule:

On expiry Nifty	Net Payoff from	Net Payoff from	Net payoff
closes at	Put Buy (Rs.)	Put Sold (Rs.)	(Rs.)
2200	468	-348	120
2300	368	-248	120
2400	268	-148	120
2500	168	-48	120
2600	68	52	120
2700	-32	52	20
2720	-52	52	0
2800	-132	52	-80
2900	-132	52	-80
30000	-132	52	-80
3100	-132	52	-80

The Bear Put Spread Strategy has raised the breakeven point (if only the Rs. 2800 strikeprice Put was purchased the breakeven point would have been Rs. 2668), reduced the costof the trade (if only the Rs. 2800 strike price Put was purchased the cost of the trade wouldhave been Rs. 132), reduced the loss on the trade (if only the Rs. 2800 strike price Put waspurchased the loss would have been Rs. 132 i.e. the premium of the Put purchased).However, the strategy also has limited gains and is therefore ideal when markets aremoderately bearish.

12.       Long Call Butterfly: Sell 2 ATM Call Options, Buy 1 ITM Call Option And Buy 1 OTM Call Option.

A Long Call Butterfly is to be adopted when the investor is expecting very little movement inthe stock price. The investor is looking to gain from low volatility at a low cost. Thestrategy offers a good risk / reward ratio, together with low cost. A long butterfly is similarto a Short Straddle except your losses are limited. The strategy can be done by selling 2ATM Calls, buying 1 ITM Call, and buying 1 OTM Call options (there should be equidistancebetween the strike prices). The result is positive incase the stock  remains rangebound. The maximum reward in this strategy is however restricted and takes place whenthe stock  is at the middle strike at expiration. The maximum losses are also limited.Let us see an example to understand the strategy.

For Example:

Nifty is at 3200. Mr. XYZ expects very little movement inNifty. He sells 2 ATM Nifty Call Options with a strike priceof Rs. 3200 at a premium of Rs. 97.90 each, buys 1 ITM

Nifty Call Option with a strike price of Rs. 3100 at apremium of Rs. 141.55 and buys 1 OTM Nifty Call Optionwith a strike price of Rs. 3300 at a premium of Rs. 64. TheNet debit is Rs. 9.75.

Pay off Schedule:

On expiry	Net Payoff from	Net Payoff from 1	Net Payoff from 1	Net Payoff
Nifty Closes at	2 ATM Calls Sold (Rs.)	ITM Call purchased (Rs.)	OTM Call purchased (Rs.)	(Rs.)
2900	195.8	-141.55	-64	-9.75
3000	195.8	-141.55	-64	-9.75
3100	195.8	-141.55	-64	-9.75
3109.75	195.8	-131.8	-64	0
3200	195.8	-41.55	-64	90.25
3290.25	15.3	48.7	-64	0
3300	-4.2	58.45	-64	-9.75
3400	-204.2	158.45	36	-9.75
3500	-404.2	258.45	136	-9.75
3600	-604.2	358.45	236	-9.75
3700	-804.2	458.45	336	-9.75
3800	-1004.2	558.45	436	-9.75
3900	-1204.2	658.45	536	-9.75

13.       Short Call Butterfly: Buy2 ATM Call Options, Sell 1 ITM CallOption And Sell 1 OTM Call Option.

A Short Call Butterfly is a strategy for volatile markets. It is the opposite of Long CallButterfly, which is a range bound strategy. The Short Call Butterfly can be constructed bySelling one lower striking in-the-money Call, buying two at-the-money Calls and sellinganother higher strike out-of-the-money Call, giving the investor a net credit (therefore it isan income strategy). There should be equal distance between each strike. The resultingposition will be profitable in case there is a big move in the stock. The maximum riskoccurs if the stock  is at the middle strike at expiration. The maximum profit occurs ifthe stock finishes on either side of the upper and lower strike prices at expiration. However,this strategy offers very small returns when compared to straddles, strangles with only slightly less risk.

For Example:

Nifty is at 3200. Mr. XYZ expects large volatility in theNifty irrespective of which direction the movement is,upwards or downwards. Mr. XYZ buys 2 ATM Nifty Call

Options with a strike price of Rs. 3200 at a premium ofRs. 97.90 each, sells 1 ITM Nifty Call Option with a strikeprice of Rs. 3100 at a premium of Rs. 141.55 and sells 1OTM Nifty Call Option with a strike price of Rs. 3300 at apremium of Rs. 64. The Net Credit is Rs. 9.75.

Pay off Schedule:

On expiry	Net Payoff from	Net Payoff	Net Payoff from	Net Payoff
Nifty Closes at	2 ATM Calls	from 1 ITM	1 OTM Call sold	(Rs.)
	Purchased (Rs.)	Call sold (Rs.)	(Rs.)
2700	-195.8	141.55	64	9.75
2800	-195.8	141.55	64	9.75
2900	-195.8	141.55	64	9.75
3000	-195.8	141.55	64	9.75
3100	-195.8	141.55	64	9.75
3109.75	-195.8	131.8	64	0
3200	-195.8	41.55	64	-90.25
3290.25	-15.3	-48.7	64	0
3280	-35.8	-38.45	64	-10.25
3300	4.2	-58.45	64	9.75
3320	44.2	-78.45	44	9.75
3500	404.2	-258.45	-136	9.75
3590	584.2	-348.45	-226	9.75
3700	804.2	-458.45	-336	9.75
3800	1004.2	-558.45	-436	9.75
3950	1304.2	-708.45	-586	9.75

14.  Call Condor: Buy 1 ITM Call Option (Lower Strike), Sell 1 ITM Call Option (Lower Middle), Sell 1 OTM Call Option (Higher Middle), and Buy 1 OTM Call Option (Higher Strike)

A Long Call Condor is very similar to a long butterfly strategy. The difference is that the twomiddle sold options have different strikes. The profitable area of the payoff profile is widerthan that of the Long Butterfly (see pay-off diagram).The strategy is suitable in a range bound market. The Long Call Condor involves buying 1ITM Call (lower strike), selling 1 ITM Call (lower middle), selling 1 OTM call (higher middle)and buying 1 OTM Call (higher strike). The long options at the outside strikes ensure thatthe risk is capped on both the sides. The resulting position is profitable if the stock remains range bound and shows very little volatility. The maximum profits occur if the stockfinishes between the middle strike prices at expiration.

This strategy is applicable when an investor believes that the underlying market will trade in a range with low volatility until the options expire. Risk associated is limited to the minimum of the difference between the lower strike call spread less the higher call spread less the total premium paid for the condor. Reward is also limited as the maximum profit of a long condor will be realized when the stock is trading between the two middle strike prices.

Payoff Schedule:

On expiry Nifty	Net Payoff from 1 ITM	Net Payoff from 1	Net Payoff from 1	Net Payoff from 1 OTM	Net Payoff
Closes at	call purchased (Rs.)	ITM call  sold (Rs.)	OTM Call sold (Rs.)	call purchased (Rs.)	(Rs.)
3000	-41.25	26	9.8	-6	-11.45
3100	-41.25	26	9.8	-6	-11.45
3200	-41.25	26	9.8	-6	-11.45
3300	-41.25	26	9.8	-6	-11.45
3400	-41.25	26	9.8	-6	-11.45
3411.45	-29.8	26	9.8	-6	0
3500	58.75	26	9.8	-6	88.55
3600	158.75	-74	9.8	-6	88.55
3700	258.75	-174	9.8	-6	88.55
3788.55	347.3	-262.55	-78.75	-6	0
3800	358.75	-274	-90.2	-6	-11.45
3900	458.75	-374	-190.2	94	-11.45
4000	558.75	-474	-290.2	194	-11.45
41000	37558.75	-37474	-37290.2	37194	-11.45
4200	758.75	-674	-490.2	394	-11.45

Suppose Nifty is at 3600 in June. An investor enters a condor trade by buying a Rs. 3400strike price call at a premium of Rs. 41.25, sells a Rs. 3500 strike price call at a premium ofRs. 26. Sells another call at a strike price of Rs. 3700 at a premium of Rs. 9.80 and buys acall at a strike price of Rs. 3800 at a premium of Rs. 6. The net debit from the trades is Rs.11.45. This is also his maximum loss.

To further see why Rs. 11.45 is his maximum possible loss, let’s examine what happenswhen Nifty falls to 3200 or rises to 3800 on expiration.At 3200, all the options expire worthless, so the initial debit taken of Rs. 11.45 is theinvestor’s maximum loss.At 3800, the long Rs. 3400 call earns Rs. 358.75 (Rs. 3800 – Rs. 3400 – Rs. 41.25). Thetwo calls sold result in a loss of Rs. 364.20 (The call with strike price of Rs. 3500 makes aloss of Rs. 274 and the call with strike price of Rs. 3700 makes a loss of Rs. 90.20). Finally,the call purchased with a strike price of Rs. 3800 expires worthless resulting in a loss of Rs.6 (the premium). Total loss (Rs. 358.75 – Rs. 364.20 – Rs. 6) works out to Rs. 11.45. Thus,the long condor trader still suffers the maximum loss that is equal to the initial debit takenwhen entering the trade.

If instead on expiration of the contracts, Nifty is still at 3600, the Rs. 3400 strike price callpurchased and Rs. 3700 strike price call sold earns money while the Rs. 3500 strike pricecall sold and Rs. 3800 strike price call sold end in losses.The Rs. 3400 strike price call purchased earns Rs. 158.75 (Rs. 200 – Rs. 41.25). The Rs.3700 strike price call sold earns the premium of Rs. 9.80 since it expires worthless and doesnot get exercised. The Rs. 3500 strike price call sold ends up with a loss of Rs. 74 as the callgets exercised and the Rs. 3800 strike price call purchased will expire worthless resulting ina loss of Rs. 6.00 (the premium). The total gain comes to Rs. 88.55 which is also themaximum gain the investor can make with this strategy.

The maximum profit for the condor trade may be low in relation to other trading strategiesbut it has a comparatively wider profit zone. In this example, maximum profit is achieved ifthe underlying stock price at expiration is anywhere between Rs. 3500 and Rs. 3700.

15.  Short Call Condor:

Short 1ITM Call Option (Lower Strike), Long 1 ITMCall Option (Lower Middle), Long 1 OTM CallOption (Higher Middle), Short 1 OTM CallOption (Higher Strike).

A Short Call Condor is very similar to a short butterfly strategy.

 The difference is that thetwo middle bought options have different strikes. The strategy is suitable in a volatilemarket. The Short Call Condor involves selling 1 ITM Call (lower strike), buying 1 ITM Call(lower middle), buying 1 OTM call (higher middle) and selling 1 OTM Call (higher strike).The resulting position is profitable if the stock  shows very high volatility and there isa big move in the stock. The maximum profits occur if the stock finishes oneither side of the upper or lower strike prices at expiration.

For Example:

Nifty is at 3600. Mr. XYZ expects high volatilityin the Nifty and expects the market to break opensignificantly on any side. Mr. XYZ sells 1 ITM Nifty CallOptions with a strike price of Rs. 3400 at a premium ofRs. 41.25, buys 1 ITM Nifty Call Option with a strikeprice of Rs. 3500 at a premium of Rs. 26, buys 1 OTMNifty Call Option with a strike price of Rs. 3700 at apremium of Rs. 9.80 and sells 1 OTM Nifty Call Optionwith a strike price of Rs. 3800 at a premium of Rs. 6.00.The Net credit is of Rs. 11.45.

Payoff Schedule:

On expiry	Net Payoff	Net Payoff from	Net Payoff	Net Payoff	Net
Nifty	from 1 ITM	1 ITM Call	from 1 OTM	from 1 OTM	Payoff
Closes at	Call sold (Rs.)	purchased (Rs.)	Call purchased	Call sold	(Rs.)
			(Rs.)	(Rs.)
3000	41.25	-26	-9.8	6	11.45
3100	41.25	-26	-9.8	6	11.45
3200	41.25	-26	-9.8	6	11.45
3300	41.25	-26	-9.8	6	11.45
3400	41.25	-26	-9.8	6	11.45
3411.45	29.8	-26	-9.8	6	0
3500	-58.75	-26	-9.8	6	-88.55
3600	-158.75	74	-9.8	6	-88.55
3700	-258.75	174	-9.8	6	-88.55
3788.45	-347.2	262.45	78.65	6	0
3800	-358.75	274	90.2	6	11.45
3900	-458.75	374	190.2	-94	11.45
4000	-558.75	474	290.2	-194	11.45
4100	-658.75	574	390.2	-294	11.45
4200	-758.75	674	490.2	-394	11.45