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A New Approach to Build a Successful Straddle Strategy: The Analytical Option Navigator

Author

Listed:
  • Orkhan Rustamov

    (International Magistrate and Doctorate Center, Azerbaijan State University of Economics, Baku AZ1001, Azerbaijan)

  • Fuzuli Aliyev

    (School of Business, ADA University, Aghaoghlu str. 11, Baku AZ1008, Azerbaijan)

  • Richard Ajayi

    (College of Business, University of Central Florida, Orlando, FL 32816, USA)

  • Elchin Suleymanov

    (International Magistrate and Doctorate Center, Azerbaijan State University of Economics, Baku AZ1001, Azerbaijan
    Department of Finance, Baku Engineering University, Khirdalan AZ0101, Azerbaijan
    National Observatory on Labour Market and Social Protection Affairs, M. Nakhchivani street 25a, Baku AZ1005, Azerbaijan)

Abstract

The study described in this paper develops a new technique which permits the execution of an open straddle strategy based on the superior volatility forecast for analyzing historical data. We extend the current litearure by measuring the volatility of an underlying asset in the last predefined period and comparing the actual volatility in currency with historical volatility in currency to make predictions of implied volatility. We calculated stock price volatility through an optimal holding period (OHP) and set up bars of volatility in currency. To obtain this, we solved optimization equations to find maximum and minimum movements in the volatility in currency within the defined range. We placed volatility in currency into percentile rankings and designed a straddle trading strategy based on the last OHP’s volatility in currency. The technique allows for an investor (or trader) to open either short or long positions based on calculations for a selected OHP’s volatility in currency. We applied this strategy to 130 stocks which are traded on CBOE. We developed a trading algorithm which can be used by institutional as well as individual investors. The algorithm is set to determine historical volatility in currency and forecast upcoming volatilities in currency through the understanding of the market sentiment. The empirical findings show that the stocks analyzed with the algorithm generate positive returns along a spectrum of changing volatilities of the underlying assets.

Suggested Citation

  • Orkhan Rustamov & Fuzuli Aliyev & Richard Ajayi & Elchin Suleymanov, 2024. "A New Approach to Build a Successful Straddle Strategy: The Analytical Option Navigator," Risks, MDPI, vol. 12(7), pages 1-17, July.
    • Handle: RePEc:gam:jrisks:v:12:y:2024:i:7:p:113-:d:1437901
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    References listed on IDEAS

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    1. Liu, Dehong & Liang, Yucong & Zhang, Lili & Lung, Peter & Ullah, Rizwan, 2021. "Implied volatility forecast and option trading strategy," International Review of Economics & Finance, Elsevier, vol. 71(C), pages 943-954.
    2. Degiannakis, Stavros & Filis, George & Hassani, Hossein, 2018. "Forecasting global stock market implied volatility indices," Journal of Empirical Finance, Elsevier, vol. 46(C), pages 111-129.
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