Financial professionals will tell you that the market is a forward looking huge discounting mechanism. Analysts and economists are analyzing data about either companies or economies and are publishing information which the market takes into consideration in setting the market price of assets. In the case of individual stocks, the market has a perception about earnings and usually the market buys a stock, pushing the price upwards up until the earnings’ announcement by the corporation. If the earnings come in as expected, the stock, after the announcement, usually sells off with traders taking profits. You, as the trader of options, can buy a call option before earnings, watch it increase in value as the stock increases in value, and sell it right before the earnings’ announcement because the day before announcements the market usually is trading the stock at its’ highest relative value.
However, there are situations in which the market does not receive all information, and thus you as the investor/trader may want to trade with the intuition that something really big new wise is about to hit the market and cause the underlying to either dramatically trade up or down depending on the news. The simultaneous buying of both a call and put on the same investment with the same expiration and strike price is called a straddle.
This trade is neither a bullish nor a bearish strategy, but instead a combination of the two. On the upside, the profit potential of the long call will be your maximum payout as established by the broker, e..85%. as the level of the underlying asset increases above the position’s upside break-even point. On the downside, the profit potential of the long put at expiration can be also the full payout of 85% as the underlying falls in price. Again, profit potential for the long straddle depends only on the degree of change in the underlying asset, not on the direction in the market.
So in the case of this trade, the investor can make money under these two possible scenarios: If the earnings announcement is far better than the market anticipated, the stock should rise after the announcement because investors realize that the price of the stock in the market is too cheap. A buying frenzy can take place causing the underlying stock to go up, and you, the trader, with the binary call will see the value of your call increase. There should then be a solid trend in place to allow you to see a continued price rise, and then hopefully you can sell your put, recovering value better than the maximum payback loss set by the broker for an out of the money put. If the announcement comes in far worse than the market expected, there will be a dramatic and hard selloff of the stock in the market. Your put should explode in value as well.
You should then sell off your call to save on the “wreckage” value and reduce its’ loss. The maximum loss for the long straddle is limited to the total call and put premium paid, but this will only take place if you misjudged, and the stock makes no major move only trading sideways until you close the position or the option expires. This scenario should only work with Options+ from “Anyoption” or similar features at other brokers. Anyoption will allow you to sell an out of the money option back; you won’t, however, get all your money back , yet compared with the miniscule amount that you get when an option expires out of the money, the amount your account is credited helps makes the move on the other trade leg profitable.
The market is usually filled with all kinds of information which reflects itself in the value of the asset being traded. Most of the time, the market is correct, but we know from the vagaries of life that even the best made calculations and assumptions can turn out to be surprisingly incorrect, and then you as the trader can be ready to profit handsomely.