Butterfly Spread Options Strategy

Butterfly Spread – what do butterflies have to do with options? Well, the name Butterfly Spread is simply derived from the appearance of the profit and loss chart that is created when an option investor makes the following transactions:

  • Purchase of 2 call options at different strike prices (Strikes) A and C
  • Sale of 2 call options at a strike price B exactly in the middle of the strikes A and B of the two purchased call options
  • all options have the same term

What can be speculated on with a Butterfly Spread?

With the Butterfly Spread strategy, profits always arise when the price of the underlying asset, such as a share, is not very volatile and remains within the specified range between the strike prices of the two purchased call options. Typical representatives of this class are often telecommunications providers.

The advantage: it is irrelevant whether the price of the share rises or falls. The price simply has to stay within the spread in order to make a profit. However, the profit is limited. However, the losses are also limited, which is why the Butterfly Spread strategy is very interesting for option investors.

Example of a Butterfly Spread

The price of one share is currently €80. A Call Option A at the strike of 70 and a Call Option C at the price of 90 are now being bought. An option premium must be paid for this. With a contract size of 100 shares each, for example, 190 € (1.90 € per share) must be paid for Call A and 220 € (2.20 € per share) for Call C, for a total of 410 €.

By selling two call options on Strike 80, i.e. exactly in the middle of the strike prices of the purchased options (70 and 90), an option premium of €310 is simultaneously collected. For 200 shares, this corresponds to a price of €1.55 per share. 100 € more in premiums are paid than are collected.

This leads to break-even prices for the purchased call options of 71 € and 89 €.
As long as the share price remains within the range between €71 and €89, there is a profit. The maximum profit is 80 € for a share price of 80 €, i.e. 900 € for 100 shares. If the share price falls below 71 € or rises above 89 €, a loss is incurred. However, this is limited to €100, i.e. the difference between the more premiums paid and the premiums received.

The following possibilities are conceivable:

  • the share price remains at 80 €
  • the share price rises, but remains below 89 €
  • the share price rises above € 89
  • the share price falls, but remains above 71 €
  • the share price falls below €71

The share price remains at €80

Call A leads to a profit of €10 per share, or €1,000 for 100 shares. The profit is the difference between the higher share price compared to the base price of €70. Options B and C expire. After deducting the stake of €100 paid in total, a profit of €900 is generated. This is also the maximum possible profit that can be achieved with the Butterfly Spread.

The share price rises, but below 89 €

In this case for the Call A still a profit. However, the profit will be considerably lower, since the buyer of the call options exercises them. At a price of €85, a profit of €14 per share can be booked from the call option A, i.e. a total of €1,400. At the same time, the loss from the sale of call option B totals €5 per share. With 200 shares, this makes €1,000. This leaves a profit of €400.

The share price rises above € 89

The gain on call options A and C is equal to the loss on the two call options sold. For example, if the share price is €93, taking into account the option premiums, €22 per share can be earned with call option A and €2 per share with call option C. This amounts to a total of € 2,400. The two call options sold result in a loss of €12 per share, or €2,400. In total, a loss of € 100 is recorded, i.e. in the amount of the stake for the butterfly spread.

The share price falls, but remains above 71 €

The call option A can generate profits as long as the share price remains above € 71. The use of €100 from the more paid option premiums for options A and C have already been taken into account. Options B and C expire if the share price falls below €80. If the share price is €73, for example, there is a profit from call option A of €2 per share, for a total of €200.

The share price falls below €71

In this case, all three options expire. A loss of €100 remains, i.e. in the amount of the difference between the more paid premiums and the premiums received.


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