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FRM Part I · FRM Exam Part I · Trading Strategies

A trader holds a long straddle on a stock with strike $100. Each option costs about $6, so total premium is $12. The trader believes implied volatility is too low but is unsure of the direction. Which statement about the position is correct?

A long straddle profits when the stock moves far enough either way, beyond $88 or $112 here, and its maximum loss is the $12 premium, incurred if the stock ends at the strike. It is a long-volatility position, not one that gains from stability.

  1. AIt profits if realized moves exceed what the premium implies, and loses at most $12Correct
  2. BIt profits most if the stock stays at $100 until expiry
  3. CIt has unlimited loss if the stock rises sharply
  4. DIt has a break-even only on the upside at $112

Explanation

A long straddle benefits from large moves in either direction and its loss is limited to the premium paid ($12), which occurs at a final price of $100. Break-evens are $88 and $112, so it is not upside-only.

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