SteadyOptions is an options trading forum where you can find solutions from top options traders. TRY IT FREE!

We’ve all been there… researching options strategies and unable to find the answers we’re looking for. SteadyOptions has your solution.

4 Low Risk Butterfly Trades For Any Market


The other day I was having a conversation with an options blogger and he asked me how I traded. When I told him that my primary trade is the Butterfly option spread, he was surprised and said I was one of the first people he met who regularly traded Butterflies. In a world where Iron Condors get all the love, it wasn't the first time I had that conversation.

I've traded a wide range of options strategies, but, for a number of reasons, the Butterfly is my preferred trade.

 

The Butterfly option spread is possibly one of the least understood and least utilized options income strategies. Butterflies can be used to construct high probability positions with a profit range similar to and potentially larger than an Iron Condor with less risk. Alternatively, a short dated Butterfly option can provide a great risk/reward ratio when traded slightly out of the money. Perhaps my favorite characteristic of the Butterfly is that the position can make money prior to expiration even if price trades outside of the expiration break even points. 

 

In this post we'll take a look at four different Butterflies with very different trading characteristics.

 

1. At The Money (ATM) Butterfly

 

The ATM Butterfly option is the common Butterfly spread that most options traders think about. The position is placed at the money with anywhere from 7 to 50 days to expiration depending on your strategy. The ATM Butterfly is a short delta trade and can be managed by rolling the initial position up or down or adding additional Butterflies when price trades outside of the expiration break even points. The ATM Butterfly is what most traders think of when they think of the Butterfly.

 

The Butterfly pictured below is an an ATM Iron Butterfly in the Russell 200 (RUT) with 50 point wings and slightly under 30 days to expiration. The biggest challenge with the position is that it leans short delta and will take heat if the market rallies immediately after the trade is entered.

 

70c34506f1b021bd675a648829baad0f.png

 

2. Directional Butterfly

 

The Directional Butterfly is a balanced butterfly option spread that is positioned slightly out of the money and works like a lottery ticket. Essentially you position the Butterfly above or below the market and want price to trade towards the short strike. Directional Butterflies can be purchased cheaply, which makes the risk/reward ratio very favorable. In the image below, the Russell 2000 (RUT) closed around 1130 and the image shows the 1130/1150/1170 Call Butterfly with around 30 days to expiration. The Butterfly cost is $190 with a maximum payout of around $1,800. However, risk reward isn't even the best part of the trade.

 

One of the great characteristics of the Directional Butterfly is that the profit/loss line will rise outside of the body of the Butterfly prior to expiration. What that means is that, prior to expiration, the range of potential profit is wider than the expiration break even lines would suggest. In the image below the T+Zero line has been advanced two weeks so we're really looking at the T+14 line. What's important to point out is that the range of profit at T+14 is from 1080 to 1175, which is almost 100 points (around an 8% range) and significantly wider than the body of the Butterfly would suggest.

 

eec25cc45cc1156443fe2a115e2dcfa1.png

 

3. Broken Wing Butterfly (BWB)

 

The BWB is positioned slightly away from the money with unbalanced wings. The trade is usually initiated for a credit and has trading characteristics similar to an out of the money vertical spread. Since Butterflies are made up of two vertical spreads, that doesn't come as a surprise.

 

The broken wing Butterfly pictured below is the RUT 1190/1200/1220 Call Butterfly with 28 DTE that could have been opened for a credit of around .80. At the time of writing, the short strikes at 1200 were around 15 delta. The position is short delta and benefits directionally if price falls, but the T+Zero line will rise up near the body of the Butterfly as the trade approaches expiration.

 

8fe608a7837a4258dc312695112436ba.png

 

4. Consistent Income Butterfly (CIB)

 

The Consistent Income Butterfly is my primary trade. The CIB is the combines a Butterfly that is positioned slightly below the money with a long call. The position is constructed with 50 point wings in the Russell 2000 (RUT) and uses a ratio of one Butterfly to one IWM call. On the upside, the position is adjusted by adding up to two additional Butterflies and calls and on the downside the trade is simply rolled down.

 

The philosophy behind the CIB is to keep trade size small on the downside when we expect increased volatility in the markets. On the upside, we add to the position and wait for the bullish trend to rest or pull back. When the trade is started, the position has a very flat T+zero line with the goal of taking on as little directional risk as possible.

 

The image below shows the October 2015 position that is currently open and discussed every weekend. Notice that there is very little directional risk in the trade and a flat T+Zero line when the trade is entered.

 

150d1c501d3d31a9c3f9ea26a4fc8153.png

 

Now what?

 

One of the big challenges with trading any options strategy is coming up with a set of rules for the strategy. All of the trade ideas above provide a starting point for designing an income strategy. One of the reasons the Butterfly provides a great starting point for an income strategy is that the positions have much wider break evens than you might expect. This post discusses how a Butterfly can be constructed to have a range of profit almost as wide as a high probability Iron Condor.

 

Even though the positions above seem forgiving, it's essential to have a trading plan before placing any trade. Trading well always means making positive expectancy decisions.

 

This article is presented by Dan, founder of Theta Trend, a site focused on simple, objective options trading with an awareness of trend.

What Is SteadyOptions?

Full Trading Plan

Complete Portfolio Approach

Diversified Options Strategies

Exclusive Community Forum

Steady And Consistent Gains

High Quality Education

Risk Management, Portfolio Size

Performance based on real fills

Try It Free

Non-directional Options Strategies

10-15 trade Ideas Per Month

Targets 5-7% Monthly Net Return

Visit our Education Center

Recent Articles

Articles

  • Anchor Maximum Drawdown Analysis

    One of the most common questions asked about the Anchor and Leveraged Anchor strategies relates to “what’s the most I can lose on the trade.”  Fortunately, that’s a fairly easy number to calculate for any one given time on a known portfolio.  A yearlong dynamic calculation is a bit more difficult. 

    By cwelsh,

    • 0 comments
    • 32 views
  • Options: Debt and Net Return

    This is the last in a series of articles about how dividends affect option value and volatility. In picking stocks for options trading, what are your criteria? Analysis of dividends, debt and net return – all fundamental tests – help identify strong value companies (and lower-volatility options) versus weak, high-risk stocks.

    By Michael C. Thomsett,

    • 0 comments
    • 232 views
  • Can you "Time" the Steady Momentum PutWrite Strategy?

    As a financial advisor, investment advisor, hedge fund manager, model developer, and newsletter signal provider for over a decade now, I've had the opportunity to see quite a bit of human nature in action.

    By Jesse,

    • 0 comments
    • 255 views
  • How Steady Momentum Captures Multiple Risk Premiums

    Our Steady Momentum PutWrite strategy attempts to outperform the CBOE PUT index, which writes cash secured puts on the S&P 500. An investable version of this strategy can be purchased with the ETF PUTW. The historical data for PUT extends back more than 30 years, highlighting how writing puts can be an attractive strategy.

    By Jesse,

    • 0 comments
    • 465 views
  • The Effect of Dividends on Options Pricing

    The theory of dividends and underlying stock prices is simple: The underlying price is expected to decline on ex-dividend date, by the amount of the dividend. As a result, option prices should decline as well. Under this theory, calls for higher dividend stocks should be valued lower and puts should be valued higher.

    By Michael C. Thomsett,

    • 0 comments
    • 350 views
  • 5 Ways To Identify Fake Forex Broker Reviews

    Many traders or future traders shop for a broker to work with and find endless reviews on the web, and not all are genuine. Here are 5 ways ways to separate the good from the bad. There are lots of sites that specialize in forex broker reviews and lots of talk about brokers in various forums.

    By Kim,

    • 0 comments
    • 208 views
  • 3 Dividend traps to Watch For

    Dividends are almost universally viewed as positive aspects of stock selection and options trading. The higher the dividend yield, the more positive. But does this ignore some dangers in dividend trends? In fact, there are three ways in which dividends can mislead traders and create positive impressions when in fact, the news is negative.

    By Michael C. Thomsett,

    • 0 comments
    • 281 views
  • Dividends and Options

    Steady Options has received numerous inquires into how dividends impact options, option prices, and the owners or option contracts. The impact of dividends should be understood by any option contract trader.  Fortunately, the rules for option contracts and dividends are clear and straightforward. 

    By cwelsh,

    • 0 comments
    • 316 views
  • When Can You “Trust” a Backtest?

    There's a joke in the financial industry that "nobody has ever seen a bad backtest". There certainly are bad ones, but nobody ever markets them. They just get thrown in the trash. Even academics can fall prey to this.

    By Jesse,

    • 0 comments
    • 259 views
  • Increasing Yield Through Covered Calls

    When starting out with options, a natural place to begin is with covered calls. It’s a very easy to understand strategy for those that are familiar with stock ownership. The strategy involves buying a stock in lots of 100 shares. The total size will depend on you account size and how much exposure you want to take.

    By GavinMcMaster,

    • 0 comments
    • 359 views

  Report Article

We want to hear from you!


There are no comments to display.



Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account. It's easy and free!


Register a new account

Sign in

Already have an account? Sign in here.


Sign In Now

Options Trading Blogs