Description:
This sideways strategy (which is the same as a short straddle with the call replaced by a synthetic call) amounts to shorting stock and selling two ATM (or the nearest OTM) put options with a strike price K. The trader’s outlook is neutral. This is a capital gain strategy.
S0 ≥ K
Understanding the Short Put Synthetic Straddle
The short put synthetic straddle is a non-directional strategy consisting of two legs, designed to replicate a traditional short straddle. It involves selling short shares of the underlying asset and selling put options. As a net credit strategy, it benefits from time decay and the expectation that the underlying will not experience significant price movement. This strategy is composed of a short position in the underlying stock and two short put options with the same strike price. Its risk profile includes unlimited loss potential, with limited profit from the premium collected on the put options. It’s intended to take advantage of minimal volatility or tight trading ranges, where the price of the underlying remains near the strike price of the options sold.
The strategy is based on the concept of replicating the payoff of a traditional short straddle using a combination of short underlying shares and short puts. The goal is to profit from a lack of significant movement in the underlying price. It is ideal in scenarios where the underlying is expected to trade within a narrow range. This makes it similar to a ratio put write, wherein you are selling (writing) put options, collecting premiums upfront, and hoping the stock price doesn’t move too far in either direction. The larger the stock movement, the greater the potential risk.