3 Joys of a Weekly Butterfly

3 Joys of a SPX Weekly Iron Butterfly?

1) By trading every week, you become an better craftsmen

2) The butterfly has a very good potential reward relative to the risk of the trade.

3) SPX is a well diversified Index with great liquidity and you don’t have to deal with the risk of individual stocks.

Definition: Iron Butterfly is a trade where one puts on an at-the call credit spread and an at-the-money put credit spread

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Trade Example in SPX

Price is $2073 as I write this. I am looking at the December expiration with 8-9 days till expiration. Sell one 2075 call and buy one 2100 call. Sell one 2075 put and buy one 2050 put.

The strike prices for each credit spread are 25 points wide. The total credit of this trade right now is around $20.35 ( $2035).

The margin or risk of the trade would be $465 (The width of the credit spreads minus the total credit of the Iron Butterfly).

Greeks of the Trade

The margin or risk of the trade would be $465. The Greeks on a one contract Iron Butterfly as I described here would look something like this: Delta -4 Gamma -0.15 Theta 25 Vega -28.

The attractiveness of this trade to me is the theta. The theta is a theoretical but decent number that says I will make about $25 per day from time decay. This occurs because my short strikes will decay much faster than my long strikes because they are at-the-money and have more time premium.

Short Term Butterflies

On short term Butterflies, the theta is almost as big as the Vega. What does this mean? It means that the Volatility risk for short term Butterflies is much less a factor than say Iron Butterflies you originate 30-40 days from expiration.

The Vega here of -28 ( minus 28) means that if each of the strikes of the butterfly dropped 1 point equally in implied volatility, the trade would theoretically make about 28 dollars from the volatility decreasing.

Why? Implied Volatility is a metric of the time premium part of an option. If Implied volatility decreases, we make money in this example because we sold more time premium in our short options than we bought with our long options.

How I Would Trade this Type of Strategy for Weekly Income?

I would place this trade every week on say Wednesday. I would look to make about 15% on my risk or margin.

If the price of SPX were to get to either of our long strikes or within 5 points of either long strike, I would consider taking the trade off. I probably would look to be in this trade 2-3 trading days at the most.

What about Technicals?

I don’t care much about technicals for this trade. I am entering this trade to capture some of the juicy theta weekly Iron Butterflies generate. I will put this trade on every week for an entire year, 50-52 times.

My goal is to win about 38-40 times and probably lose 12-14 times. As long as I employ strict risk management and get out when I am supposed to, this can be a very profitable weekly income trade.

Dan Sheridan dan@sheridanmentoring.com

4 replies
  1. Patrick
    Patrick says:

    So for this week you are looking at next week expiration.

    So for next week we will be looking at the week after expiration ?


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