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Butterfly
Debit Spread: The stock has to close exactly equal to at-the-money
strike price on expiration date for maximum gain.
First wing: buy to open out-of-the-money
higher strike price call (the strike price should be higher than the
resistance level.)
Second wing: buy to open in-the-money lower
strike price call (the strike price should be lower than the support
level.)
The Body:
sell to open two calls at-the-money strike price.
Max. Gain = Difference between in-the-money
strike price and at-the-money strike price – Net Debit.
Max. Loss = Net Debit.
Breakeven on the downside: Lowest strike price +
net debit
Breakeven on the upside: Highest strike price –
net debit
Notes: The max. loss
occurs if the stock closes higher than out-of-the-money strike price or
lower than in-the-money strike price on expiration date.
Main Points: Identify flat-trend stock and
allow 20 to 40 days until expiration.
Summary
of Butterfly with calls
Step 1: Buy 1 lower strike price ITM call (the
wing)
Step 2: Sell 2 middle strike price ATM calls
(the body)
Step 3: Buy 1 higher strike price OTM call (the
wing)
Butterfly
notices:
·
The ratio between buying ITM call, selling ATM
calls and buying OTM call is 1:2:1
·
The distance
between the three adjacent strike prices must be equal with the middle strike
price being ATM or as close to ATM as possible.
·
Advanced option
traders sometimes pick unequal distance between the strike prices. They
are trading “broken wing butterfly”.
·
Advanced option
traders sometimes choose the ratio 1:2:2 or 2:2:1. They are trading semi
directional butterfly with one extra “exponential” contract.
Why
butterfly?
We trade butterfly strategy when we see a stock
has run out of steam and begins a period of consolidation.
Notice: Please
notice this call butterfly is a debit trade. It is simply a combination
of buying and selling vertical calls.
Dennis Phan 潘家墉
18 December 2012
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