I posed your question on ASK JEEVES: 1. Suppose the price of a stock is $100. 2. Company XYZ will announce later today it's profits for the last fiscal year. 3. You buy otm call at say $110 for say $0.001 and otm put at say $90 for again $0.001 and same expiry date...say 3 months from now. (That's two thousandths of one penny for a strangle) 4. What will be the implied volatility in this case? The answer form ASK JEEVES was: CHECK ON THE MEANING OF "REALITY" This reply was unacceptable. So I provided more information: 5) I am 99% sure that the implied volatility will be sufficiently higher in the case described above 6) Everyone is expecting the news and some big volatility - hence the sellers should be compensated and buyers should pay more to compensate the sellers? Or...the volatility will remain unchanged as if nothing has happened? The second answer form ASK JEEVES was: The volatility is carefully adjusted... it will be close to the historical mean. It should be...at least in the context of EMH - that is...the implied volatility should become much larger prior to any known announcement/meeting, etc. - that is...it's enogh to know that something will be announced to rule out this strategy - if the news on the other hand comes unexpected (such as...Buffet dies out of a sudden...), volatility should be...normal and someone with an inside information will benefit. Testt this strategy on historical data to see the premise. Mind you even a "neutral news"...such as...in the case of an FX option whereas the eur/usd would solely depend if the European Bank decides to cut the interest rates, left them unchanged or rise them - even so if the "left them unchanged" option turns to be the news, this could still generate some swing in the price movement in any direction and it will outperform the predicted daily volatility - given cognitive bias and other things not liked by academics. WHEW! ASK JEEVES sure is clever !
Here's an example of a stock that often has volatility...BIDU It's currently trading around $110. The Jan 11 $100/120 strangle is going for $9.08, or $908 per strangle. That means the stock has to move over 8% just to break even. It's definitely not impossible, but it's a hard game to win.