Butterfly Spread – Milking The Butterfly Spread For Consistent Bling

October 16, 2011 by Ted Nino  
Filed under Investment

The butterfly spread trade – with is a trade made up from puts and calls , is a preferred strategy with option income enthusiasts. Not only does this trade give the trader a substantial quantity of premium at the start of the trade which might be parlayed into an important monthly cash flow, it also provides an extremely effective position structure which can put up with and tolerate a variety of trading circumstances, including particularly volatile situations like the ones we are seeing now. In a wild stock market exactly where a lot of other option methods do not have a chance, the butterfly spread may be put on and if appropriately monitored, come out smelling like a rose.

When you look at a risk graph of the buttefly spread, you will see that the butterfly payoff is tremendous – specially when analyzed side to side with other option income methods – for instance the iron condor, the credit spread, the diagonal, double diagonal, the calendar, double calendar, and so on.

Depending on exactly where the wings are placed on these trades, or to put it differently, how close or far the long options are puchased in relation to strikes sold, it’s possible to develop a butterfly trade where by the possible reward is numerous times more than the danger taken on.

Nevertheless, in the occurances where the reward is numerous times greater than the risk being assumed, it is due to the fact that the wings that are being purchased are incredibly close to the strikes being sold, creating an incredibly tall yet really narrow ‘profit tent’ which the underlying has to remain inside of to realize that massive payoff – which the odds will probably be incredibly low.

Even so, if the underlying remains inside the overall space of this tall, narrow profit tent – plus the trader does not plan to stay with the trade all of the way until expiration day – a good earnings can still be extracted from these lower probability straddles trade as the zero day income line on the risk graph soars up pretty rapidly and a first rate return is usually grabbed within a short level of time.

Ted Nino is an option selling evangelist – particularly fanatical about trading straddles , the Double Calendar, the Credit Spread, and the Butterfly Spread. Visit his puts and calls Blog to learn more about these option strategies.


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