Option Strangles: An Analysis of Selling Equity Insurance

Abstract

We analyze the full return characteristics of option strangles and develop a set of models to help investors avoid getting steam-rolled. Our results show that selling SPY strangles are generally profitable across all time frames and ‘widths.’ Our model posted the largest average returns of 18.28% in 2009 followed by 16.85% in 2011. We find new evidence on maximum drawdowns which indicates that losses on some positions can be the equivalent of the profits gained on approximately forty prior positions. This payoff profile has given rise to the metaphor of selling option contracts as the equivalent of "picking up nickels in front of a steam roller."