Straddle or Strangle, what is better for a PCRCC?

In my previous Blog, I discussed the BRCM trade in the chart below. As you can see, all legs of the trade were to be entered at $35 strike prices. Then HK alerted me to a possible better trade if one used a strangle rather than a straddle as the long portion of the trade. Here is what HK said:

Hi Juan,
A similar looking risk graph can be obtained by substituting the long straddle with a Nov 32.5P/37.5C strangle. This will result in a lower debit even after taking into consideration the margin requirements.

Is this be a viable alternative ?

In response I said: A spike in volatility is most likely to occur in ATM options, thus, I could make my money faster using the straddle.

Then It occurred to me that a savings of several thousands of dollars in the entry may be put to use by increasing the number of contracts in the position, and possibly generate more profits. I thought HK’s idea was worthy of further investigation. I have said before that I am a student of options, not a pundit. So as a good student I decided to do my homework.



1) The Cost
My all ATM PCRCC's requirements are based only in the price of the longs minus the price of the shorts, so the status of the account easily follows the progress of the trade. If the long portion of the PCRCC is a strangle, the difference in prices between the long call and the short call creates a credit spread with cash requirements that you must keep track of.

Take a look at the costs from the all ATM PCRCC


Now compare that with the costs of the straddle-based PCRCC:


It is an inescapable fact is that there is a differential of $4000 even after considering the cash requirement. If one has those $20,000 to invest, would it make us a greater profit to invest that money in a straddle-based PCRCC with more contract so that the total cost is $20,000 too?

1) The Volatility
In theory, traders would be more likely to buy ATM options, thus generating a greater volatility, was my first reaction. But that is not necessarily the case if the expirations are several months out. Would an increase in volatility affect options that are one strike price OTM as much as ATM calls?. If that is not the case, could we compensate for that differential by buying (and shorting) a greater number of contracts?

I thought I could evaluate that hypothesis by comparing some of my previously successful all ATM PCRCC with their equivalent straddle-based PCRCC’s. I propose to use the outstanding cash to increase the number of contracts, so that the comparison is based on total cost. One of my most successful trades was done on SNDK that returned >20% in a few days, as volatility spiked after I entered my trade in advanced of a judgment in a legal case involving a competitor. If I can reproduce the same trade with a straddle or a strangle in the long portion, I might independently evaluate the effect of a strong IV spike on each of these two trades. This is the volatility spike SNDK underwent in those few days:




Here is my original entry after the spike had occurred:

The total cost was just below $15.500, and only a few days later, my gains were 23.76%.


The chart illustrates how the volatility spikes moves the risk curves to the right of the 0 profit lane. This is not to be overlooked. At this point the trader either leaves the trade or sell calls and puts to transform the trade into a calendar spread.

Now, here is the Straddle-based PCRCC, transformed to arrive at a similar risk graph, and a similar cost, only combining debit + cash requirements.

The total cost is approximately the same (give or take $10). While the debit is substantially less, $11725, the cash requirements are $3750. Note how I was able to add 5 contracts to each of the long legs, and 6 total contracts for the short legs. The result was overwhelmingly better for the straddle-based PCRCC. Obviously, the volatility increased in all long legs and the result was better in the trade with the largest number of contracts. Comparing the two charts, it seems that in my original trade the risk curves move futher to the right in the graph, but in the end it was the larger number of contracts that made the winner!


Remember that, since you are using OTM calls and puts in your straddle, only the CALL portion of the trade is a credit spread, so the requirements would apply to the call side only. I always think of the cash requirements as a hidden cost, and you should be aware of it. To calculate the requirement before entering the trade, OptionsXPress helps with the trade calculator. BUT if you don’t have such a facility with your broker, this is the formula:

Cash requirements= (long call strike price – short call strike price)*number of short call contracts*100.

In the present example, Cash requirements = ($30-$27.5)*15*100=$3750

Thanks HK, you were right after all.

A final note, it would be worth doing this test on any successful and unsuccessful trades you may have entered in the past, and share with us your results. A single case does not necessarily make a rule.