Butterfly Option Strategy Basics

The Butterfly Spread

Not sure how a butterfly works or makes money?

No problem.

This video is in response to a question from a member. He wanted to know how the trade made money and why he had to exit the trade to get his profit. The answer to the second part of the question is because the butterfly is a debit trade and so you pay for the trade. As the trade makes money, the debit or value of the spread increase and when you sell it, you get back more than what you paid. Hopefully. If you do nothing, you risk getting assigned on the short options.

How the trade works as well as short explanations of the iron butterfly and split strike butterfly as shown as well. The butterfly in the video was an OptionGenius trade that resulted in a 20% profit. As you can see, the butterfly can and does give off large gains. But before you start trading them, you should also know how to adjust the trade if it goes against you. A little bit of that is discussed towards the end of the video.

If you have any questions, please let us know on the comments section below and be sure check out our previous blog posts for best options trading service and awesome tips on how to trade stock options.

Also, please browse our options training and products section for stellar options trading course and options trading training.

12 Comments

  1. joe grand on January 12, 2012 at 4:03 pm

    what are the possibilities and risks of legging into the butterfly or iron butterfly so as to hopefully decrease the debit on the butterfly or increase the credit in an iron condor?

    • Genius on January 13, 2012 at 12:22 pm

      For newbies, I would not advise them to leg in. On a classic fly I like to get in when the stock is close to the short strike anyway. You can leg into an iron condor or even an iron fly but if you are trading small the benefits are too little to bother with.

  2. Boyce Duvall on January 12, 2012 at 5:21 pm

    Thanks for the video. The butterfly is interesting but seems like a lot of risk for such a small amount of profit.

    I just stick to the weekly or monthly covered call. What time period do you prefer. I am not a member of your service at this time, but may consider later

    Thanks

    • Genius on January 13, 2012 at 12:21 pm

      So in the trade in the video I risked about $700 to make $140 or so. On a covered call you put up several thousands dollars to buy 100 shares and hope for a 2-3% gain. So if we just look at the risk to reward, the butterfly kills the covered call. I am not saying the covered call does not have its place, it does and can increase the yield on a stock you are holding long term, but in terms of trades that you can do for a living the fly is better in my book.

      Weekly or monthly? I prefer monthlies because it is a trade I dont want to have to watch. I sell call on my stocks at a price I want to sell or above resistance so I can keep the stock and keep selling.

  3. Jim on January 12, 2012 at 5:28 pm

    The video does not “play”.

    • Genius on January 13, 2012 at 12:12 pm

      Seems to be working now. Please try it again

  4. JOSE on January 12, 2012 at 9:46 pm

    COULD YOU COMMENT ON BROKEN WING BUTTERFLY?

    SOME PEOPLE CALLS IT THE ONE STRATEGY FOR ALL MARKETS

    THANKS

    JOSE

    • Genius on January 13, 2012 at 12:15 pm

      I dont know about all markets. To me it is a directional play with some degree of being able to exit without much loss if you are wrong on the direction. lately the margin rules have changed and now the brokers charge margin on both sides of the fly which reduces the return in half. When that happened I moved away from the broken fly. I like credit spreads myself.

  5. Mark on June 9, 2012 at 9:58 am

    I have been looking for butterfly options where the middle (2x calls) that are sold add up to more than the wings (calls) that are bought. Then there is no chance of losing any money if the credit is greater than the commissions and a possibility of making a lot if expiration falls near the middle calls. I recently have found one such option so far, but it has been very difficult, so I’m wondering if you have an easier method to spot these type of butterfly plays.

  6. PMini on October 28, 2013 at 11:21 am

    OG thanks for another excellent video. My question is being in the money and risking the option being exercised. How close to expiration date should you wait to get out of a butterfly, assuming it’s in the money?

    • Genius on October 28, 2013 at 11:52 am

      You want to get out as soon as you can.
      You should be fine until expiration week.
      If you still need to be in the trade during expiration week, your chances of assignment go up if the short options are in the money.
      If avoiding assignment is your biggest concern exiting when there is still time value in the sold options is the way to go. So maybe a couple days before expiration? Depends on a trade by trade basis though.

  7. Mark on November 16, 2014 at 8:28 pm

    Great explaination. Thank you

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