What is ‘iron Butterfly’
Short iron butterfly options strategy that is created with four options consisting of two rings, and three strike prices, all with the same date of expiration. His goal is to profit from a low volatility of the underlying asset. In other words, he will get maximum profit if the underlying asset closes in the middle of the strike price upon expiration.
The strategy has limited risk and in the other direction, because the high and low versions, the wings protect against significant movements in one direction or another. Because of this limited risk, the potential profit is also limited. The Commission can be a significant factor here, as there are four options.
Breaking down the ‘iron Butterfly’
Iron butterfly is a combination of strategies. Ideally, the trader would like all options expire mediocre, which is possible only if the underlying asset closes exactly at the middle strike price at the expiry. There will probably be a fee to close the deal, if it is successful. If it fails, the loss is still limited.
The strategy is as follows:
Because of this-the money options, called wings, both long positions. Because both of these options are not money, their premiums are lower than in-the-money options, so there is net lending of the account when processing the transaction. Further, by choosing different strike prices, we can adopt the strategy of lean bullish or bearish. For example, if the average strike price above the current price of the underlying asset, the trader expects a slight increase in price by the expiry. It still has a limited reward and limited risk.
Two different combinations of options give the same results. The first option is as a combination of a bull put spread and Bear call spread. Here the strike price of the bull, the higher the possibility, and the Bear call the Lower version, same thing.
In addition, two on-the-money options to start with a short straddle, which involves selling put and call with the same at the money strike and expiration. It then adds a long to strangle to create the wings, and buying out of the money call and put.
The iron butterfly strategy differs from the butterfly spread because it uses both calls and puts, in contrast to all calls or all puts. The maximum profit of the trader is equal to net premiums received after the fee, if the underlying asset closes exactly at the center of the strike price. Their maximum loss is the difference in the strike prices for calls or options, minus the amount of credits received after payment of commissions.