These closely related strategies involve combining three different option positions in the same symbol and expiration month with the intention of maximizing reward and minimizing risk.
In options trading, a straddle is defined as buying or selling an equal number of calls and puts of the same strike price in the same expiration month. For example, if a trader sold an at-the-money SPY straddle with the underlying trading at $200, the actual mechanics of the trade would involve selling a $200 strike price call and a $200 strike price put.
In the above example, if the combined credit for selling the strangle was $4, then the trade would produce a profit as long as the SPY closed above $196 or below $204 prior to the expiration of the position.
A strangle possesses an almost identical risk profile as a straddle, except that it widens out the breakeven points while producing a lower maximum profit. For example, a trader might see that with the SPY trading $200, the $204 calls are trading for $0.50 and the $196 puts are trading for $0.65.
In this case, a strangle is initiated by selling the out-of-the-money call and put in the same expiration month. By selling the $204 call and the $196 put for a total credit of $1.15, the breakeven points are now $205.15 and $194.85. If the SPY closes anywhere within those two points before expiration, the position will produce a profit.
The big lizard and jade lizard are very similar to straddles and strangles, except they layer on one more option position to help mitigate risk.
A big lizard involves selling a straddle then purchasing an out-of-the-money call. A jade lizard involves selling a strangle and then also purchasing an out-of-the-money call.
The long premium option reduces the overall credit (maximum profit) of the position, but reduces risk in the position if the underlying moves beyond the upside breakeven threshold.
Depicted in the graphic below are the structures of the jade lizard and the big lizard:
The "big" lizard gets its name due to the fact that a straddle sale yields a bigger credit versus the strangle in a "jade" lizard.
As noted in the slide above, the goal is to try and execute this spread such that the absolute credit from the three-pronged position produces a value larger than the difference between the strike prices of the call positions.
On Know Your Options, Liz and Jenny discuss the fact that recent downward moves in the SPY have pushed up premiums and now may offer good entry points for just this type of position - especially if a trader is neutral to bullish the market over the duration of the trade (typically 45 days to expiration).
Liz and Jenny evaluate the current prices in SPY and discuss that while IVR is only 31%, this somewhat lower ranking is mostly due to the one outsize move that occurred in the last month.
They proceed to initiate a jade lizard with the following structure:
SPY value: $197
Short a 180 put
Short a 204 call
Long a 206 call
The trade is initiated for a total credit of $1.98 (slightly under recommended credit of $2.00 or more) with the primary risk in the position being if the underlying were to drop through the breakeven threshold below the 180 put (downside breakeven is $178.02).
As you can see, lizards reduce upside risk in straddles and strangles, and benefit the most when an underlying sits still or drifts toward the strike. The trade will generally produce the most profit in non-bearish and high implied volatility environments.
We encourage you to watch the entire episode of Know Your Options to get the best possible understanding of lizards.
Additionally, you can find a great deal of additional tastytrade material on jade lizards (or big lizards) on tastytrade.com.
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