A short iron butterfly option strategy will attain maximum profit when the price of the underlying asset at expiration is equal to the strike price at which the call and put options are sold. User acknowledges review of the User Agreement and Privacy Policy governing this site. Because of this, the 750 put expired with intrinsic value of $12.50 while all of the other options expired worthless. The short strategy. Sell one at-the-money call. A short iron butterfly option strategy attains maximum profit when the underlying asset’s price upon expiration equates to the strike price. The maximum profit of an iron fly occurs when the stock price is at the short strike at expiration. And be aware, a situation where a stock is involved in a restructuring or capitalization event, such as a merger, takeover, spin-off or special dividend, could completely upset typical expectations regarding early exercise of options on the stock. Trading Futures, Options on Futures, and retail off-exchange foreign currency transactions involves substantial risk of loss and is not suitable for all investors. A Butterfly Spread consists of putting on 3 option trades at once whereas the Iron Butterfly Spread consists of putting on 4 option trades at once in order to attain a higher potential profit than a basic Butterfly Spread. Let's go over the strategy's general characteristics: Max Profit Potential: Net Credit Received x 100, Max Loss Potential: (Strike Width of Widest Spread - Net Credit Received) x 100, Upper Breakeven = Short Strike + Net Credit Received, Lower Breakeven = Short Strike - Net Credit Received. It is the underlying price where the short put option’s value matches net premium received. In this example, both the short call spread and short put spread are $5 wide, so the risk is equal on both sides of the trade. If the trader did not want a short stock position, the short call would need to be bought back before expiration. A short iron butterfly consists of being long a call at an upper strike, short a call and short a put at a middle strike, and long a put at a lower strike. As mentioned earlier, the maximum loss potential of an iron fly depends on the wider spread. The maximum loss would occur should the underlying stock be outside the wings at expiration. You've learned the general characteristics of the short iron fly strategy. Options involve risk and are not suitable for all investors. An investor who sells an iron butterfly receives a premium somewhere between the minimum and maximum value, and generally profits if the butterfly's value moves toward the minimum as expiration approaches. This strategy profits if the underlying stock is inside the wings of the iron butterfly at expiration. As Short Iron Butterfly involves buying OTM options and selling ATM options, this strategy is a net credit strategy. The iron fly strategy is very similar to a short straddle, except an iron fly has less risk due to using spreads as opposed to naked short options. The upper and lower strikes (wings) must both be equidistant from the middle strike (body), and all the options must be the same expiration. This strategy has expiration risk. The strategy is a net loser because the 106 short call expires with $4.64 of intrinsic value when $4.42 was collected for selling the iron fly. Now, let's go through some visual trade examples to solidify your knowledge of how selling an iron butterfly works in practice. It is a four –legged spread option strategy consisting of puts and calls options and is the opposite of Long Iron Butterfly, which is a sideway strategy To profit from neutral stock price action near the strike price of the short options (center strike) with limited risk. All options are in the same expiration cycle. If an early exercise occurs at the body, the investor can choose whether to close out the resulting position in the market or to exercise one of their options (put or call, whichever is appropriate). When each spread has the same width, the risk of loss is equal on both sides. This position is created by combining an Out-Of-The-Money (OTM) short put spread (bullish strategy) and a short call spread (bearish strategy) on the same stock with the same expiration. However, since the short iron butterfly can collect a lot of premium, making partial profits on a short iron butterfly still results in healthy profits compared to making full profit on strategies that collect less premium (such as a short strangle). When trading more contracts, the profits and losses in each case will be magnified by the number of iron flies traded. The Iron Butterfly options strategy is basically a subset of the Iron Condor options strategy using the identical strike for the short options. With the short iron butterfly, you buy outside wings to define your risk and create forced protection. An alternative way to think about this strategy is a short straddle surrounded by a long strangle. An Iron Fly is essentially an Iron Condor with call and put credit spreads that share the same short strike. The Iron Butterfly Trading Strategy is a part of the Butterfly Spread Options and a combination of a bull spread and a bear spread. However in the final days before expiration, the stock price rallied above the upper breakeven price of $110.42, leading to losses on the position. Since the position is worth more than it was sold for initially, the trader incurs losses. Earn income by predicting a period of neutral movement in the underlying. This web site discusses exchange-traded options issued by The Options Clearing Corporation. More specifically, the stock price was trading for $110.64 at expiration, which means the loss on the iron fly was only $22: ($110.42 upper breakeven - $110.64 final stock price) x 100 = -$22. The short iron butterfly is the synthetic equivalent of a short straddle, with one exception. The existence of this Marketing Agreement should not be deemed as an endorsement or recommendation of projectoption by tastyworks and/or any of its affiliated companies. Let's see what happens that allows this trade to make money! Ok, so you've seen a short iron fly that breaks even. Additionally, the stock price was trading for $737.50, just $12.50 below the iron fly's short strike. To demonstrate these characteristics in action, let's take a look at a basic example and visualize the iron butterfly strategy's potential profits and losses at expiration. Neither tastyworks nor any of its affiliated companies are responsible for the privacy practices of projectoption or this website. Opinions, market data, and recommendations are subject to change at any time. If at expiration the stock is trading near the body of the butterfly, the investor faces uncertainty as to whether or not they will be assigned. (Strike Width of Widest Spread - Net Credit Received) x 100. The short butterfly is a neutral strategy like the long butterfly but bullish on volatility. However, if the call spread were $75 wide (e.g. Nothing contained in our content constitutes a solicitation, recommendation, promotion, or endorsement of any particular security, other investment product, transaction or investment. The goal of this strategy is to make a profit from conditions where the price remains somewhat stable and the options showing the decline in implied volatility and historical volatility. However, if you center your trade at-the-money, then you can use the iron butterfly because you are selling at-the-money options, not in-the-money options. This means you will be paying a lot of commissions. This can be a two credit spread or an inside short straddle and an outside long strangle. In terms of the risk to reward profile, a Short Iron Butterfly is quite attractive. Exercising an option to close out a position resulting from assignment on a short option would require borrowing or financing stock for one business day. OCC 125 South Franklin Street, Suite 1200 | Chicago, IL 60606. Past Performance is not necessarily indicative of future results. Regarding a share assignment, this particular trader would be assigned -100 shares of stock if they did not close the in-the-money short call before expiration. Following this, the trader will obtain the net credit of entering the trade once the options are worthless upon lapsing. So, if the stock price shifted by the expected move, the position would be a loser because the stock price would be beyond one of the breakeven points. As we can see in this example, the stock price rallied from $74.44 to over $82.50 during the life of this short iron fly position. More specifically, this trade has $158 in loss potential on the upside and $458 in potential losses on the downside. 300 short call and 375 long call), the maximum loss potential of this iron fly would be: ($75 strike width - $22.94 credit received) x 100 = $5,206. The long iron butterfly or condor can also be viewed as a combination of 2 vertical spreads: a … Options trading sounds complicated, but it doesn't need to be. With an initial sale price of $66.15, the profit for the iron fly seller is $5,365: ($66.15 initial sale price - $12.50 expiration value) x 100 = +$5,365. In the following example, we'll investigate a situation where the stock price rises continuosly and is above the long call strike price at expiration. Option income strategies focus on time decay and collecting premiums over the decay. The profitability of a Double Iron Butterfly Spreads can also be enhanced or better guaranteed by legging into the position properly. Next, we'll take a look at a scenario where a short iron fly realizes the maximum potential loss. Should the exercise activity be other than expected, the investor could be unexpectedly long or short the stock on the Monday following expiration and hence subject to an adverse move over the weekend. Assuming the trader isn't assigned early on the short put before expiration, the trader could avoid a share assignment by purchasing the short 750 put right before expiration. Copies of this document may be obtained from your broker, from any exchange on which options are traded or by contacting The Options Clearing Corporation, 125 S. Franklin Street, Suite 1200, Chicago, IL 60606. All options are in the same expiration cycle. Together these spreads make a range to earn some profit with limited loss. In that case either both calls or both puts would be in-the-money. Continued use constitutes acceptance of the terms and conditions stated therein. Additionally, the at-the-money straddle is trading for $73.55, indicating an "expected move" of around $75, while the iron fly only collects only $66.15. The loss would be the difference between the body and either wing, less the premium received for initiating the position. However, there's always a chance that the trader could get assigned early on the short call. A short iron butterfly position can be conceptualized in two ways: 1) Simultaneously selling a straddle and buying a strangle. Image via Unsplash by jsnbrsc. The Iron Butterfly Strategy limits the amounts that a Trader can win or lose. The investor is looking for the underlying stock to trade in a narrow range during the life of the options. At expiration, an in-the-money short call expires to -100 shares of stock and an in-the-money long call expires to +100 shares of stock. 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