20: The Sale of a Straddle 309 
gh it is 7 points in-the-money. This is not unusual in a bullish situation. 
ver, the put might be worth 1 ½points.This is also not unusual, as out-of-the­
y puts with a large amount of time remaining tend to hold time value premium 
well. Thus, the straddle writer would have to pay 10½ points to buy back this 
dle, even though it is at the break-even point, 7 points in-the-money on the call 
This example is included merely to demonstrate that it is a misconception to 
ieve that one can always buy the straddle back at the break-even point and hold 
losses to mere fractions of a point by doing so. This type of buy-back strategy 
ks best when there is little time remaining in the straddle. In that case, the 
options will indeed be close to parity and the straddle will be able to be bought back 
for close to its initial value when the stock reaches the break-even point. 
Another follow-up strategy that can be employed, similar to the previous one 
but with certain improvements, is to buy back only the in-the-money option when it 
reaches a price equal to that of the initial straddle price. 
~mple: Again using the same situation, suppose that when XYZ began to climb 
heavily, the call was worth 7 points when the stock reached 50. The in-the-money 
option the call - is now worth an amount equal to the initial straddle value. It could 
then be bought back, leaving the out-of-the-money put naked. As long as the stock 
then remained above 45, the put would expire worthless. In practice, the put could 
be bought back for a small fraction after enough time had passed or if the underly­
Ing stock continued to climb in price. 
This type of follow-up action does not depend on taking action at a fixed stock 
price, but rather is triggered by the option price itself. It is therefore a dynamic sort 
of follow-up action, one in which the same action could be applied at various stock 
prices, depending on the amount of time remaining until expiration. One of the prob­
lems with closing the straddle at the break-even points is that the break-even point is 
C)nly a valid break-even point at expiration. A long time before expiration, this stock 
price will not represent much of a break-even point, as was pointed out in the last 
example. Thus, buying back only the in-the-money option at a fixed price may often 
be a superior strategy. The drawback is that one does not release much collateral by 
buying back the in-the-money option, and he is therefore stuck in a position with 
little potential profit for what could amount to a considerable length of time. The 
collateral released amounts to the in-the-money amount; the writer still needs to 
C.'Ollateralize 20% of the stock price. 
One could adjust this follow-up method to attempt to retain some profit. For 
example, he might decide to buy the in-the-money option when it has reached a