Blaine561’s Blog

An Iron Bird shouldn’t fly, but the popular Iron Condor spread can soar with the eagles. Ok, maybe this statement is a little over the top, but for stock option traders with bulging trading accounts, the Iron Condor is popular for a good reasons.

 

The Iron Condor option spread is a credit spread. As a result, option traders

need to have enough resources to cover the margin requirements. Before using this strategy, it’s probably a good idea to check with your broker first.

 

This particular strategy is employed when a stock option trader believes that there will be little movement in the underlying stock. The Iron Condor differs from the plain old Condor spread because it buys out-of-the-money (OTM) calls and puts. Because of this fact, the profit potential is higher and the potential loss is lower than the Condor.

 

Buy to Open OTM Put (Lowest Strike)

Sell to Open OTM Put (Higher Strike)

Sell to Open OTM Call (Higher Strike)

Buy to Open OTM Call (Highest strike)

 

Example: Assume IWM current price: $ 69

 

Buy X Contracts of March $68 put @ $1.70

Sell X Contracts of March $69 put @  $2.03

Sell X Contracts of March $70 call @ $1.82

Buy X Contracts of March $71 call @ $1.42

 

As you can probably  see, the Iron Condor is composed of a Bear Call Spread and a Bull Put Spread.So, if the underlying is moving up, the option spread trader could close out the Call options and leave the Put options intact. Likewise, if the price of the underlying is moving down, the Put options can be closed out and the Call options left intact.

 

A key point is that the difference between the strike price of the short call option and the short put option determines the range within which the position will result in its maximum profit potential.

 

 

Establishing the Net Credit
Net Credit for the example trade= ($2.03+$1.82) credit - ($1.70+$1.42) debit= .                                                                                                            .73 x 100=$73

Profit Calculation of Iron Condor Spread:
Maximum Profit% = Net Credit =$73 (Not including commissions)
Profit % = (Credit Gained From Short Legs / Greatest Difference In Strike) x 100 ; $3.85/3= 128%

Maximum Loss Possible = Greatest Difference In Consecutive Strike - Net Credit: 1-.73 x 100= $27

 

 

Upper Breakeven= Short Call Strike + Net Credit= $70-.73= $70.73

Lower Break Even = Short Put Strike - Net Credit= $69-.73=$68.27

 

Range: $68.27-$70.73

 

Because of the four positions going in and out, commissions can take a big bite out of the profits of this conservative option trading strategy. However, the ROI and risks are appealing if you have the assets in your account to cover the margin requirements.