Butterfly (options)

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In finance, the butterfly is a limited risk, non-directional preferred strategy designed to have a high probability of generating a limited profit when the future volatility of the underlying asset is expected to be lower or higher. of implied volatility when long or short of each.

Video Butterfly (options)

Long butterflies

A long butterfly position will yield an advantage if future volatility is lower than the implied volatility.

The long butterfly selection strategy consists of the following options:

• Call 1 long with price strike (X - a)
• A short 2nd call with a X strike price
• Call 1 long with price strike (X a)

where X = the spot price (ie the current underlying market price) and & gt; 0.

Using put-call parity, long butterflies can also be made as follows:

• Long 1 with strike price (X a)
• Short post 2 with X strike price
• Long 1 with strike price (X - a)

where X = the spot price and & gt; 0.

All options have the same expiration date.

At the expiration date, the (but not the profit) value of the butterfly is:

• zero if the underlying price is below (X - a) or above (X a)
• positive if the underlying price is between (X - a) and (X a)

Max value occurs on X (see diagram).

Maps Butterfly (options)

Short butterflies

The position of the short butterfly will yield an advantage if future volatility is higher than the implied volatility.

The choice of a short butterfly strategy consists of the same options as a long butterfly. But now the option position of the middle strike is the long position and the short and short strike options position.

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Graph Butterfly P/L

Because the butterfly option strategy is a complex strategy and contains 3 "legs" (choice with 3 different strikes), the P/L chart is quite complex and changes significantly over time.

This is a graph showing P/L (profit/loss) for a 1-year butterfly option strategy 5 days prior to expiration:

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Margin Requirements

Margin requirements for all option positions, including butterflies, are governed by what is known as Rule T. But brokers are allowed to enforce tighter margin requirements than regulations.

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Butterfly Variation

1. The dual option position in the center is called the body, while the other two positions are called wings.
2. The option strategy in which the middle option (body) has a different strike price is known as Condor.
3. In the case that the distance between the middle strike price and the strike above and below is not the same, the position is referred to as a "broken wing" butterfly.

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References

• McMillan, Lawrence G. (2002). Options as Strategic Investment (4th ed.). New York: New York Financial Institutions. ISBN 0-7352-0197-8.
• Credit By Broker And Dealer (Rule T) , FINRA, 1986
• Long Butterfly Strategy

Source of the article : Wikipedia