Options are the derivatives segment that can help traders generate income, manage risk, and even hedge against market volatility. Among the many options strategies available for various market conditions, one that we shall discuss here is “The Batman option strategy”. 

What is the Batman Option Strategy?

The Batman option strategy is a multi-leg neutral options trading strategy designed to be used when a range-bound movement and low volatility is predicted in an underlying security. The strategy is obtained by combining a call ratio spread and a put ratio spread in an underlying security of the different strike prices with the same expiration.

This strategy is deployed when an underlying asset is expected to be neutral without any directional bias. To be profitable in this strategy the underlying security should stay in the range with a minimal movement upon expiration.

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Construction 

To deploy the Batman Option strategy first we need to construct the legs of the options required.

  • Buy one out of the money(OTM) call option strike.
  • Sell two lots of deep out-of-the-money(OTM) call option strikes.
  • Buy one out of the money(OTM) put option strike.
  • Sell two lots of deep out-of-the-money(OTM) put option strike.

When the above legs are combined and applied together in the same security with the same expiration date at an equal distance of strike prices, the Batman strategy is defined to be deployed. The distance of strike prices chosen from the spot price is based on the expected volatility in an underlying security.

Example

Let us understand the above construction clearly with an example. Assume Nifty 50 is trading with a spot price of 19120. We believe that the market is expected to have a big down move or an up move with high volatility.  But as we are more unclear about the direction, we shall deploy the Batman options strategy. Here the 19120 spot price is rounded off to the nearest strike price, which is 19100.

The option legs for the assumed spot price 19120 of nifty 50 are as considered below:-

  • First leg:- Buy one lot of the 19300 strike call option, in which the premium of Rs 20 is paid.
  • Second leg:- Sell two lots of 19350 strike call option, in which the premium of Rs 13 is received. As we sell two lots, here, the total premium accounts to 13+13= Rs 26.
  • Third leg:- Buy one lot of the 18900 strike put option, in which the premium of Rs 24 is paid.
  • Fourth leg:- Sell two lots of 18850 strike put option, in which the premium of Rs 18 is received. As we sell two lots, here, the total premium accounts to 18+18= Rs 36.

Here, the net premium received is calculated as the net sum of premiums paid and received in the option legs. In the above example net premium accounts to Rs.18.

                     I.e { –20+26–24+36} = 18.

The margin required to deploy this strategy will be more compared to other options strategies. For the above example, with the premiums received, the margin required to deploy the strategy will be approximately 1.5 lakhs.

Maximum Profit and Maximum Loss

  • When the underlying security expires at the strike price, the strategy makes a maximum profit. The maximum profit can be achieved on either directional movement.
  1. When the underlying security expires at a short call strike price the maximum profit is calculated as:-

           Max Profit = strike price of short call – strike price of long call + net premium received.

From the above example, the maximum profit accounts for Rs 3400. 

               I.e, Max profit = 19350 – 19300 + 18 = 68.

The Nifty quantity for 1 lot is 50. So the maximum profit for 1 lot nifty 50 will be 68 x 50 = 3400.

  1. When the underlying security expires at a short put strike price the maximum profit is calculated as:-

           Max Profit = strike price of long put – strike price of short put + net premium received.

From the above example, the maximum profit accounts for Rs 3400. 

               I.e, Max profit = 18900 – 18850 + 18 = 68.

The Nifty quantity for 1 lot is 50. So the maximum profit for 1 lot nifty 50 will be 68 x 50 = 3400.

  •  The maximum loss in this strategy is unlimited. When the market becomes directional and as the spot price moves away from the strike prices in either direction, the loss starts to incur upon expiration.

Breakeven points

The strategy consists of two break-even points:-

  • Upper breakeven point = strike price of short call +(difference between long and short call strike prices) + net premium received.

I.e 19350+50+18=19418. If the spot price moves above this point, the strategy starts to incur a loss upon expiration.

  • Lower breakeven point = strike price of short put –(difference between long and short put strike prices) – net premium received.

I.e 18850–50–18= 18782. If the spot price moves below this point, the strategy starts to incur a loss upon expiration.

Payoff Chart

Batman Option Strategy - Breakeven points

From the payoff chart, it can be understood that:-

  • If the price of an underlying security expires between the upper breakeven and the lower breakeven point, then the strategy will be in profit upon expiry.
  • The max profit can be at two peaks which can be seen in the payoff chart. If the underlying security expires at a short put option strike or at a short call option strike then the strategy makes a maximum profit.
  • If the price of an underlying security expires above or below the upper breakeven and lower breakeven point respectively, then the strategy will incur a loss.

Batman Option Strategy Advantages

  • Profits are generated when the underlying security moves in any direction in a defined range.
  • Strategy is best preferred for low to medium volatile markets.
  • Option legs can be adjusted based on traders’ views on market moments for higher profitable ratios.
  • Time decay has a positive effect as there are more sell option legs that buy legs
  • Mathematically probability of profit is high.

Batman Option Strategy Disadvantages

  • The underlying security price must expire within the range.
  • The loss incurred will be unlimited if the market becomes directional.
  • Higher margins are required compared to other options.

In closing

Having understood the unique setup of the Batman options strategy, we shall conclude that the strategy has a lot of scope and application when there is a range-bound view with high volatility. As the strategy is preferred towards a neutral price action, if the underlying security moves in any of the directions then the strategy incurs in loss.

If the underlying security doesn’t make any price movement, the time value effect makes the strategy expire positively. With a better understanding of the option strategies, one can improvise the setups for good risk-reward ratios with better risk management.

Written By Deepak M

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