A Butterfly works by Selling 2 contracts on the Strike near the current Market price with the current Expiration Date, and then Buying 1 contract on either side, approximately 1 Standard Deviation away with the same Expiration Date. The 'wings', the positions we buy, must be the same distance away from the Short strike, otherwise it will create an uneven Butterfly with a Maintenance requirement.
The value of our Long positions will always cover any potential loss from the Short positions. Therefore, the maximum amount of loss possible on a Butterfly trade is the amount we pay for the trade. Let's take our fictitious company AcmePlus as an example. We can see below on the graph of a Butterfly trade the location of both the max loss points and the break-even points.
We generally only hold Butterfly trades for 17 to 20 days, and then we exit. When we trade Options, we don't have to go through the process of buying and selling the individual Options of our Butterfly or other spread trades. See the explanation in the Condor and Calendar sections. On a Butterfly, we can generally get better pricing by splitting the trade up into 2 Vertical Spreads:. There is no maintenance. Our maximum loss is the amount we paid for the Butterfly spread.
We profit on a Butterfly trade through the reduction of Time Premium of our Short positions during the 17 to 20 days that we are in the position. As we get closer to Expiration, we will be able to sell our Long positions for about what we paid for them.
However, it will cost us less to buy back our Short positions, and we end up with a profit. In essence, we buy the Butterfly at a low price, and then sell to close it later at a higher price. It is possible to combine multiple Butterfly positions to widen the area of profitability. It is also possible to remove and replace Butterfly's according to Market movements. Butterfly Trades place the Short Strikes near the current price of the underlying, and the Long Strikes are equally distant at approximately 1 Standard Deviation for 17 Days away from the Short Strikes.
It is held for 17 to 20 days. Trade Finder screen shots. Any one of those items can cause the price of the Underlying to jump. If the price of the underlying is too low, the price of the Options will be too low, and there won't be enough Time Premium decay to create a healthy profit. Long positions approximately 1 Standard Deviation based on 17 days Expiration.
Evaluate the price of PUTs vs. CALLs, choose whichever has the best pricing. For Advanced Traders, it is recommended to be Delta Neutral when placing the trade. Add extra Long positions to balance the Delta, but be careful not to reduce the Theta by more than half.
It is best to trade one Spread at a time: Trade the 2 vertical Spreads separately. Be more patient if you have one large order with all 3 legs. Never exceed the highest price limit. Butterfly Trade Monitor Rules:. The Uncle Bob's Money Trade Monitor automatically shows the profit level for each strategy and checks the relevant factors. Trade Monitor screen shots. Butterfly Suggested Conditional Orders:. The Uncle Bob's Money Trade Monitor automatically shows the suggested break-even points, which are used for placing Conditional Orders.
You can manually select the opposite spread to close the position if your Broker doesn't have the 'closing order' possibility.
Market We don't want to set a limit price, because we don't know what the pricing will be and we want to close this position if the underlying hits our break-even point. Submit the following order: The order is valid until it is either filled or cancelled.
We now have a conditional order that will close our Butterfly trade if the underlying price hits ONE of our break-even points. If we decide to manually exit positions, we must first cancel ALL conditional orders that we placed on those positions. How to trade a Butterfly by Uncle Bob Williams. On a Butterfly, we can generally get better pricing by splitting the trade up into 2 Vertical Spreads: We pay to enter the trade. Butterflys can be held until Expiration.
Any IV value is OK. High IV is OK if you think it will go down. Channeling for at least 45 days. Your broker will describe this trade as: Google Have a Question?More...