Short-Straddle Example
For this example, a trader, John, has been watching Federal XYZ Corp.
(XYZ) for a year. During the 12 months that John has followed XYZ, its
front-month implied volatility has typically traded at around 20 percent, and
its realized volatility has fluctuated between 15 and 20 percent. The past 30
days, however, have been a bit more volatile. Exhibit 15.6 shows XYZ’s
recent volatility.
EXHIBIT 15.6 XYZ volatility.
Stock Price Realized VolatilityFront-Month Implied Volatility
30-day high $111.7130-day high 26%30-day high 30%
30-day low $102.0530-day low 21%30-day low 24%
Current px $104.75Current vol 22%Current vol 26%
The stock volatility has begun to ease, trading now at a 22 volatility
compared with the 30-day high of 26, but still not down to the usual 15-to-
20 range. The stock, in this scenario, has traded in a channel. It currently
lies in the lower half of its recent range. Although the current front-month
implied volatility is in the lower half of its 30-day range, it’s historically
high compared with the 20 percent level that John has been used to seeing,
and it’s still four points above the realized volatility. John believes that the
conditions that led to the recent surge in volatility are no longer present. His
forecast is for the stock volatility to continue to ease and for implied
volatility to continue its downtrend as well and revert to its long-term mean
over the next week or two. John sells 10 September 105 straddles at 5.40.
Exhibit 15.7 shows the greeks for this trade.
EXHIBIT 15.7 Greeks for short XYZ straddle.