Long Straddle: Volatility Strategy, Dual Breakevens, and Profit Scenarios
Anticipating high volatility surrounding an upcoming earnings announcement, an investor buys 1 XYZ Jan 60 Call for $4.50 and 1 XYZ Jan 60 Put for $3.50 when XYZ stock is trading at $60. At expiration, which of the following price scenarios results in an overall net profit for the investor?
Long straddle breakevens = Strike ± Total Premium ($60 ± $8 = $68 and $52). Profits occur only above $68 or below $52. At $50, profit is $200.
Complete Analysis & Legal Rationale
Total combined premium paid = $4.50 + $3.50 = $8.00 per share ($800 total). A long straddle has two breakeven points: Upper Breakeven = Strike ($60) + Total Premium ($8) = $68.00; Lower Breakeven = Strike ($60) - Total Premium ($8) = $52.00. The position is profitable if the stock moves outside the $52 to $68 range. At $50, the put is in-the-money by $10 ($1,000 intrinsic value) minus $800 cost = $200 net profit. At $65, $58, or $62, the stock remains trapped between the breakevens, producing a net loss.
Distractor Autopsy (Why Other Options Are Traps)
FINRA exam writers design incorrect distractors using specific calculation mistakes and regulatory misconceptions. Review why each option succeeds or fails:
At $65, the call intrinsic value is $5, resulting in a net loss of $3 per share ($300 loss).
At $50, the stock drops below the lower breakeven ($52), generating a $200 net profit.
At $58, the put intrinsic value is only $2, resulting in a $600 net loss.
At $62, the call intrinsic value is $2, resulting in a $600 net loss.
Official Standard: Establishes straddle definitions and volatility trading mechanics.