Strategies

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Weekly Strategy Discussion

The Weekly Strategy Discussion is designed to assist individuals in learning how options work and in understanding various options strategies. Options involve risk and are not suitable for all investors. The strategies discussed are for educational and illustrative purposes only, and should not be construed as an endorsement, recommendation or solicitation to buy or sell securities. Commissions, taxes and transaction costs are not included. Please contact a tax advisor for the tax implications involved in these strategies.

Index Strategy - DJX Long Strangle

Example:
The Dow Jones Industrial Average (DJIA) has seen some large swings in the past three weeks. The CBOE lists Options on the DOW (DJX) which track the DJIA on a 1/100 basis. (i.e.: DJIA 10,000 = DJX 100). The DJX is presently at a level of 106 (DJIA=10,600).

Outlook:
You believe the DJX will continue to be volatile through the end of the year, but you are unsure of direction. You want to take a position that may profit if the DJX moves significantly up or down.

Possible Strategy:
Strangle. Buy 1 DJX Jan '01 108 Call at 4 and 1 DJX Jan '01 104 put at 3-1/4. (Net debit of 7-1/4, or $725.00.)

*All values shown are at the time of expiration.

Index Change
DJX at exp.
Jan 108 call Value
Jan 104 put Value
Strangle Cost
Net Profit/(Loss)#
17.92%
125
$1,700.00
$0.00
($725.00)
$975.00
8.73%
115.25**
$725.00
$0.00
($725.00)
$0.00
1.89%
108
$0.00
$0.00
($725.00)
($725.00)
+/- 0.00%
106.00***/****
$0.00
$0.00
($725.00)
($725.00)
-1.89%
104
$0.00
$0.00
($725.00)
($725.00)
-8.73%
96.75**
$0.00
$725.00
($725.00)
$0.00
-15.09%
90
$0.00
$1,400.00
($725.00)
$675.00

AT EXPIRATION (01/20/01)
Max. Gain : Unlimited on the upside; Substantial on the downside
** Break Even: At 2 points; DJX @ 115.25 (+8.73%) or 96.75 (- 8.73%) i.e.: DJIA up 925 points; DJIA down 925 points
*** Unchanged: Loss of $725.00
**** Max. Loss: $725.00 @ DJX at or between 104 and 108

In Short:
You enter into a position in DJX for a $725.00 cost which can profit after a +/- 925 point move in the DJIA by exp. Your max. risk is limited to the initial cost of the spread. Loss anywhere between 9,675 and 11,525 in the DJIA.

Note:
"Outlook" scenarios noted above are strictly for demonstrative purposes and are neither official positions nor the results of any actual research by the Exchange. Users are reminded that all listed Equity options are stock-settled, PM settlement and American style exercise, and, thus, may be exercised at any time prior to expiration, while DJX options are cash-settled, AM settlement and European-style exercise, and, thus, cannot be exercised prior to expiration.

CBOE Volatility Index (VIX)