Could anyone explain why short straddle used is when volatility is unusually high which causes call and put option prices to be overvalued? I thought we use straddle when volatility is long high.
When volatility is high you will go long straddle. Options are more valuable when volatility is higher (higher chance to fall in the money). This is why you are long the options.
When volatility is low you will go short straddle, sell a put and a call. You are betting on low volatility ( lower chance of falling in the money)
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Thanks
Where did you get this question?
Note, by the way, that they mean volatility of prices, not volatility of returns. The author of the question probably doesn’t know that, though.