Iron Condors and Iron Butterflies - Part 1

hello everyone and thank you for joining us today for the first of a two-part webinar series that I'll be presenting here at OIC during our summer of spreads my name is Matt hashman I'm the principal of investor education at OCC as well as an options Industry Council instructor today we're going to talk about iron condors and iron butterflies I'm going to dig into the vertical spreads that make up the larg larger multi-leg strategies and I'm going to talk a little bit about how each of those spreads work independently and then we're going to put those spreads together to show how they form the iron Condor and the Iron Butterfly we're going to dive into the potential risks and rewards of these slightly more complex but multi-leg strategies and have some discussions about how might you use them when they align with your investment goals just to give you a little bit of background on myself I started trading around 1998 I've been an options Trader ever since I got my start in Chicago trading equity and index options pretty quickly after that I moved to London and traded interest rate options there for about three years and eventually I moved back stat side where I started and ran an index options Market making operation for the better part of about a decade in Chicago again on the floor of the CBOE currently I work at the OCC helping indiv individuals and investors to better understand both the risks and the benefits of exchange traded options through efforts like the webinar that you're watching today now we always include a disclaimer to make our lawyers happy options involve risk they're not suitable for everyone any strategy that I discuss including examples using actual Securities or Price data strictly for illustrative and educational purposes should not be construed as an endorsement a recommendation or or a solicitation to buy or sell Securities past performance as always is not a guarantee of future results one other tiny bit of housekeeping the following trademarks logos and service marks displayed are owned fly by the options Clearing Corporation you'll see them used throughout the presentation today one little bit about the OIC the options Industry Council the options Industry Council is the educ tional arm of our parent company the options Clearing Corporation which you'll see right here this is our OIC logo and the OC logo obviously OC or the options Clearing Corporation is the largest Clearing Corporation of equity and index exchange traded options in the world OIC the options Industry Council started out as a collective in 1992 to better educate the public as to the risks and benefits of exchange traded options currently we continue continue to pursue that goal mainly through the utilization of our website which you'll see right here options education.org there you will find online courses podcasts videos and webinars like the one you're listening to now we are able to provide these Services free of charge to the public because we are fully funded by our parent company the OCC now I work at a division of the OCC called the investor Services desk or the investor education desk where I sit with three other colleagues you can send us email questions related to options at this email address right here I strongly encourage people to utilize and lean on this service at options the occ.com this again is a free service we extend to the public as well it's important to note we're not registered investment advisers so we can't direct you on trades we can't suggest investment strategies but what we can help with and what we love to help with is we love to leverage all of our experience and answer general questions about options about optionality and the theoretical knowledge surrounding the options ecosystem amongst the four of us that sit on the investor education desk at OIC we have over 100 Years of Industry experience surrounding options and we are always happy to help in whatever way we can to further Advance your understanding of options and how to responsibly use them in your investing now I am very fortunate to have two of my colleagues that sit on that desk with me today handling the Q&A portion of our webinar please say hello to Roma and Ken they will be answering your questions live during the presentation on the chat make sure to use that chat function if you have questions and provided we have enough time uh they'll be facilitating some Q&A at the end of the presentation so make sure you're nice to them because they're both very nice people and they're also extremely knowledgeable about options so let's Dive Right In anytime that I present about options this is always the first slide that I present it is obviously annual options volume from 20 to 2022 OCC annual contract volume by contract type so this is the amount of options that the OCC is clearing on a yearly basis the thing that you need to understand about this is basically the Trend that we are seeing this is essentially encompasses the Advent of high frequency trading is right around the 2000s and what you can see from this graph is obviously just an absolute explosion of interest in options most of this has been concentrated over the last two years over the last two two and a half three years right around there um many people disagree about why or where that is all coming from but the uh reality of the situation is that these numbers are real and that they are sticky and they're not going anywhere because the 2023 numbers are looking very similar if not more than the 2020 new 2022 numbers at this point so we are going to be well north of 10 billion contracts again this year that works out to over 40 million contracts cleared per day from my seat from an Educators perspective what this means is that what we do at OIC educ a surrounding the options ecosystem is that much more vital now than it ever has been because we want people to actually understand what they're doing when they walk into an options Marketplace and understand the risks and the benefits of the way these contracts work they are complicated investment strategies but they're not so complicated that you can't use them you just need to understand how they work and that's what we do here at OIC we utilize all of our experience to make sure that understand the risks and the benefits of these contracts so with that said let's Dive Right into what we're going to talk about today condors and butterflies iron condors and iron butterflies are made up of vertical spreads so in order to really get to the heart of how these full spreads work we have to talk about the pieces so we're going to talk about those pieces we're going to talk about an overview of vertical spreads we'll dig into the call Credit spread specifically the put credit spread also we'll talk very specifically about how those two spreads work because those are really the building blocks of that's right the iron Condor and the Iron Butterfly after we put all of that together hopefully at the end we'll have some time for a little bit of Q&A where you might be able to ask some really specific questions about how these things work aside from the specific questions let's start with the most general knowledge about this topic and that is what is a spread a spread transaction involves two or more positions generally speaking it's a buy and a sell but sometimes it can be a buy and a buy if you're talking about things like straddles or strangles those are theoretically spread transactions because they have more than one position in them but the spreads we're going to be talking about today are very specific call spreads and put spreads and generally outof the money call spreads and put spreads but in this this case you are buying or selling one option and then buying or selling another option against it you're talking about two options in one transaction generally speaking now when we're talking about these spreads specifically as far as iron condors and iron butterflies are concerned these likely have the same underlying they're traded on the same stock basically they likely have the same expiration dates most of the time generally speaking when people are trading Condors or butterflies like this they're trading them within one month they're trading them in like all in April or all in May or all in June most of the time they have different strike prices you'll see how those strike prices line up as we build this these complicated spreads together these complex strategies together and sometimes they have different quantities on each line now in the case that we're going to be looking at today most of these have the same quantities but OCC occasionally people adjust the spreads once they trade them or they trade into them in different ways that will have different quantities on different lines the thing you need to understand about that is if you have different quantities on different lines you're going to have a different risk profile and it may affect how defined your risk is as far as whether it's closed or open-ended risk so we can look at that a little bit long a little bit further on in the presentation but some can also involve stock positions one thing that comes to mind when I think about that is occasionally a spread that a lot of people utilize and that many people think about is a very well-worn options strategy the byright which is basically just being short calls against an underlying long stock position many times the bught is actually quoted as a spread and what it when people quote it as a spread they sometimes utilize the actual notional value of the stock and then take apart from that the notional value of the call that you would be selling against it and quote it as one price that would be a situation in which a spread a quoted spread could also involve a stock position now the positions that we're going to be talking about today don't necessarily involve stock positions that are underlying these options these are all option strategies but it is possible to involve stock positions in spreads so now that we've talked very generally about what a spread is let's talk about the specific type of spread called the vertical spread vertical spreads are a specific type of spread where you are buying one option and you are selling another option generally the same underlying and expiration different strike prices we'll get to that they provide defined risk and reward characteristics there are two main types of spreads what are they they are the debit spread and the credit spread so how do these work well debit spreads are exactly what they say they are they are a spread that you have paid for that you are debiting your account a certain amount of premium in order to have the spread on you can create a debit spread with calls or with puts secondarily credit spreads are the exact opposite of that they're still a spread they still have all the same characteristics of a spread with the exception being that you have taken in a credit in order to put this trade on now generally speaking debit spreads if you're trading them in vertical spreads are going to be spreads where you are buying the inside strike or the strike that is closer to the at the money and selling the farther away strike that is farther away from at the money why is that that's because if you know anything about optionality you understand that options that are closer to at the money options are going to be worth more theoretically speaking than options that are farther away that's just based on the actual price distribution and how people value options credit spreads conversely if you trade those you are going to be probably selling the closer to at the money option and buying the one that is farther away because the difference in those two option prices is what's going to create the debit or the credit debit spreads you're paying premium to initiate the position credit spreads you are receiving that premium to initi iate the position so now that we've talked really generally about spreads on their own and these specific types of spreads vertical spreads that we use to create these option condors and butterflies let's talk about them individually let's start with the call Credit spread call Credit spreads generally have motivations from the investor of a neutral or a bearish outlook on the underlying because they are a spread they have defined risks and rewards where does that come from that comes from the fact that you're buying one option and selling another option against it that's what creates a defined risk reward if you were to say buy both of the options or sell both of the options you would have a significantly different risk reward and in some cases you might not have defined risk reward in the case of something like a straddle if you were to sell a straddle which is selling the at the money call and the out the money put you do not have defined risk you have what we call undefined risk or open-ended risk because you are just short options in that case remember when you sell options you are incurring liabilities and when you buy options you are paying for the right to do something and so when you combine those two things selling and buying what you end up with is this interesting balance of defined risk and reward at certain points on the p&l curve you are incurring that liability that comes from your short option and at certain points on the pnl curve you are actually theoretically economically incentivized to exercise the option that you're long and thus take yourself out of the risk that you're incurring with your short strike and so defined risk reward means exactly that when you're trading a spread and you have one long option and one short option that's where that comes from now now they generally have a favorable Break Even point because the credit that you are receiving moves your break even point on the spread we'll talk about that and I'll show you very clear examples of how that works on both the call side and the put side during this presentation a little bit later now the last point is your profit potential when you're selling call spreads or selling put spreads is heavily influenced by the amount of credit received I think this is pretty intuitive but it Bears mentioning because a lot of people will ask questions that point to the idea that they don't necessarily understand how this works if you sell a spread for more money then theoretically your profit potential is more because you're actually getting the credit for selling the spread and if you're receiving more money you actually have more profit potential now risk control as far as these spreads are concerned again you have defined profit potential and you have defined maximum losses that is how this defined risk reward works on both of those sides the interesting thing here is that when you start to combine two options one versus the other and especially when you're selling one and buying another what that creates is a situation in which you need to stay on top of your position as far as position monitoring is concerned because and I'll show you this with these expiration p L graphs as we go that as you get closer to short strikes or long strikes your actual risk changes significantly and the dynamic of the risk that you have on is different based on where the stock is relative to your short strike and your long strike so that's why position monitoring is really critical when we're talking about spreads and call spreads and put spread specifically now let's look at a really specific example of a call Credit spread and the risk reward dynamics of this specific spread in the next couple of slides we're going to talk very specifically about stock XYZ which is not a very specific stock but that's what it is XYZ stock theoretical XYZ stock is trading 88 half I'm going to utilize this theoretical stock throughout the presentation to try to give you a really kind of thorough uh you know it'll it'll be the through line through which all of these examples are built so that we can build this full example piece by piece using the same stock XYZ stocks trade in 88 half we've got 28 days to expiration remember we're trading a call Credit spread we are going to sell the one 28 day 90 call and buy one of the 28 day 95 call remember when we talk about call condors and iron condors and iron butterflies generally speaking they utilize outof the money spreads out of the money call spreads sprs and out ofth money put spreads this is an example of an out ofthe money call spread why because both of these strikes are out of the money stocks trading 88 half the 90 call is out of the money and the 95 call is out of the money now each one of these obviously has their own price but the net credit of this transaction is a buck 70 you're selling the 90s for 350 you're buying the 95s for a buck 80 your net credit is a buck 70 here in this case and this is true of all options anytime that you sell option premium and you are credited that amount that amount stays in your account regardless of what happens what differs is when you get to a situation where you might have expiration or assignment risk those risks start to come in and actually change the dynamic of the p&l of your position but the net credit that you actually receive when you sell these spreads never changes the net credit is $1.70 that's in your account and it's staying in your account regardless if you were to sell the 90 calls and buy the 95 calls and then write it down on a position and slide it over to me and say what is this I would say oh it looks like you're short the 9095 call spread that in the parlament of the way that option Traders talk about positions that's what this is this is the 90 95 call spread it's the out ofthe money call spread and you're short the bigger option and long the smaller option you are short the 90s long the 95s for that you have gotten a credit of a buck 70 this is generally a neutral or a bearish call spread why because this spread is going to do better in a circumstance where almost nothing happens to the stock or if the stock goes down and is farther away from these 90 and 95 strikes generally speaking if everything else stays the same both of the prices of these options is going to go down because you're farther away we talked about that when we talked about the spread itself right the the actual option that is closer to at the money generally has a larger price than the one that's farther away so that would follow then that both of these options would go down in value as the stock were to sell off that's what makes this a neutral or a bearish call spread now let's take a look 9095 call spread you've sold it for a buck 70 let's take a look at the math behind here again the maximum that you can make when you're selling a call spread like this or selling a put spread as you'll see in a couple of slides is the amount that you took in the premium you received when you sold the spread so your maximum gain is a buck 70 on this now keep in mind when you're looking at this from a notional perspective options are priced in dollar per share amounts and so because these options generally control a 100 shares of stock as an American style option in the United States what this represents is 170 bucks that is how much this is in notional terms now your maximum risk is different your maximum risk is basically how much can this spread be worth at its maximum point and the answer to that is any spread like this can only be the distance between the two strikes 90 and 95 so the max it can be worth is five bucks but like I said before when you sell these spreads and you get a credit the credit stays in your account so what's your maximum risk it's the full amount of the spread minus what you've actually taken in $5 minus 170 gets you to 330 because your maximum risk is 330 generally speaking in a margin account that's what they're going to ask you to put up is to cover your maximum risk this can vary from account to account but generally speaking that's how it works and what this means is that your break even is 9170 now your break even is 9170 because in the case of a call Credit spread when you collect this amount of Premium the way you take the way you take a look at your break even is you add the maximum gain of a buck 70 to the bottom strike of the call spread the spread that the the strike that is closest to at the money you at it meaning the 90 strike plus the amount that you've taken in in premium is what creates your break even so in this case it's 9170 now let's talk a little bit about Theta many of you that know about Greeks or that have been to some of our presentations that cover Greeks will understand and know intuitively what Theta is for those of you who don't know what Theta is Theta is the force that erodes options on a daily basis it is time premium or extrinsic premium coming out of options over time and it is a measure of how much these options are worth if you were to fast forward your clock by 24 hours meaning this exact point in time 353 tomorrow afternoon this option is going to be worth theoretically if it has eight cents of theta 08 is going to be worth 08 less than it is now if all the other factors stay the same as far as your model is concerned what does that mean it means in 21 days theoretically these spreads are going to be worth significantly less than they are right now if the stock is at 88 half and if all the other factors have remained the same in seven days it's going to be worth a little bit less not quite as much less as it would be in 21 days but this is the force of theta Theta is working against these options valuation on a daily basis it works on put spreads and call spreads it works on all options essentially it is a force it is a measure of time coming out and how we actually quantify that in terms of value so let's look at the p&l graph of what the spread looks like at expiration and really build it from the ground up we're selling the lower strike call the 90s we're buying the higher strike call the 95s for that we have collected a net credit of a buck 70 Max profit again is how much you've taken in to sell the spread you're never going to make more than a buck 70 if you sell the call spread for a buck 70 and that's all you have on that's the most you can make and that's going to exist right up until the point where the stock hits 90 and starts to actually expand that call spread in p&l terms if it's 90 or below your max profit is a buck 70 which is what you actually took in your max loss remember what we said max loss is when the actual spread is worth the most that it can be worth well the 9095 call spread is worth the most it can be worth anywhere above 95 because the spread itself is going to be worth five bucks it can't be worth any more than five bucks a fivepoint call spread when it's designed like this cannot be worth more than $5 and so above 95 that call spreads worth five bucks at expiration however what did you take in you took in a buck seven 70 so your max loss is 330 that's $5 the distance between the strikes minus what you took in Max loss is 330 this is the interesting point in between 90 and 95 you have this kind of nebulous area where the spread is probably worth something but it's not worth as much as it can be worth until you get above 95 like we said and so in here that is where your break even comes into play 9170 again is the break even it's a buck 70 of that net credit added to the bottom strike of the call spread now what happens at expiration if the stock is below or equal to 90 this is your actual p&l you've made a buck 70 we just said that right the most that you can make on this spread is what you take in in credit when you sell it and when does that actually exist it happens with the stock below 90 that's the most that you can make now your assignment risk if stock is very close to this short strike remember you're short the 90s and long the 95s when you're short the call Credit spread if you're close to this short strike you have uncertainty about assignment of your short 90 calls it can result in some uncertainty of a of a potential stock position after expiration I'm GNA say this multiple times during this presentation the only way to fully remove assignment risk on your positions is to either close the positions or close the actual short strikes that you have on in this case your short the 90 calls remember I've said this before when you sell options to someone else you are incurring the liability of delivering stock at that strike price on or up to the actual expiration of the option when you buy the options you are paying for the right to do that you're paying for the right to exercise that option in this case you're short the call in this case on the 90 strike so you are incurring the obligation to deliver the stock at 90 if someone were to exercise that this is where your assignment risk comes from again the only way to fully remove assignment risk is to close down those short strikes or to close the entire position completely now let's talk about the other potential thing that happens at expiration what happens if it goes all the way through both strikes through 90 and through 95 well guess what the the actual is worth the most that it can be $5 remember the distance between 90 and 95 is the most that it can be worth the difference in strikes minus what you've received already a buck 70 gets you to your max loss of a 330 that is the case above 95 now in this case the 90 strike is really very likely going to be exercised by someone who owns it which means you have a high probability of being assigned on it but the interesting part here is that you still maintain the right to exercise your 95 call in this case if the stock were to go through both strikes you would be theoretically economically incentivized to actually exercise that 95 call because you would be short stock from being assigned theoretically on your 90 strike and thus you could exercise your 95 strike if the stock were trading higher and get yourself out of theoretically the short stock position that you would have from this short call that you would incur that liability to deliver stock at 90 to whoever exercised it so that's what happens or what could happen if the stock blows through both of those strikes to the upside let's talk about the really interesting part which is what happens if it's in between it's in between the 90 and the 95 strike you have a little bit of a a situation that you need to really keep a very close eye on remember you collected a buck 70 when you sold this spread however you could expire somewhere in between 90 and 95 where the spread itself could be theoretically profitable from where you sold it but you could also incur a significant amount of assignment risk let's say for example that the Stock's trading 91 when these two options expire well you sold it for a buck 70 what did we decide is your what did we calculate is your break even your break even is 9170 you're below your break even so theoretically this spread is profitable but what's going to happen most likely is that whoever owns this 90 call at expiration with the stock trading right here 91 is probably going to punch that call or exercise that call and if there's a high likelihood of people exercising that call you probably have a decent probability of being assigned on that call when you get assigned on the 90 call you are short stock you are incurring the liability to deliver stock at 90 which makes you short stock from 90 and so that's a situation in which the stock could be trading in a way that makes this spread profitable from where you sold it but you still have risk I'm going to say it again the only way to fully pull out your assignment risk is to not be short this 90 call that's the only way to actually do that and that case you might consider things like buying the 90 call back or buying the 9095 call spread back to close those positions and thus counteract your assignment risk make sure you think about that when you're especially when we're getting close to expiration now the actual call Credit spread and the put credit spread have very similar Dynamics as far as the spread part of them but they just work in opposite directions so let's blow through that on the put side and talk about it really quickly it's the other component of these complex option strategies right it's the put credit spread it's the other side again the Dynamics work exactly the same as the put side but they work in the opposite direction so let's explain by giving you some motivations that people use when they trade put credit spreads and then we'll talk about it through an example put credit spreads motivation are very similar to call Credit spreads but in the opposite direction in this case you would be neutral and bullish on the outlook for the underlying they again because they have a short option and a long option to find risk and reward and the premium that you take in the credit that you receive when you're selling put credit spreads generally moves your break even in a favorable way now it moves it in a different direction I'll show you that when we look at the actual example of it but again the profit potential is very heavily influenced by the amount of credit that you're receiving how big that spread is that you're selling how much premium you're taking in is directly proportional to how much profit potential you have on this trade again risk control is the exact same on the put credit spread as it is on the call Credit spread just in the opposite direction you have defined profit potential you have defined maximum loss and again position monitoring is critical you have two options that are traded against each other theoretically they are tied in some way shape or form but you have no idea necessarily whether or not they're going to move in lock step with each other or whether or not the world is going to model them in the same way that you model them from a valuation perspective so position monitoring here again is critical especially when we get close to expiration and especially when we're talking about stocks that are trading around our short strikes which is where we are incurring liabilities as far as assignment is concerned now let's take a look at the actual example again we're going to use the same stock 88 half 28 days to expiration keep in mind we're going to be trading the outof the money put credit spread here what does the out of the money mean it means that both of these strikes are lower than the current stock price because we're talking about puts the the 85 puts worth 205 the 8 puts worth 70 cents the net credit on this is a buck 35 again if you were to sell the 85s and buy the 80s and then write it down on a piece of paper and slide it across the table to me I would look at it and say oh nice you're short the 8580 put spread or you're sure at the 80 85 put spread some people say it differently as far as strikes are concerned some people say the lower strike first and upper strike second some people do it oppositely than that the interesting thing is that the way that people talk about positions the 80 85 put spread or the 8580 put spread can sometimes be depend on which uh product it is that's something that I learned firsthand when I would move from product to product to product trading options people talk about strikes in the Euro dollars very in a very very specific way and then in let's say the S&P 500 they will talk about strikes in a different way as far as the way that they would describe this spread for instance the 8085 put spread it's an interesting kind of little Nuance of the options Market that sometimes each product has its own language its own dialect within the actual language of options it's an interesting thing but in this case this is a neutral or a bullish put spread for the exact Contra reason that the call spread is a neutral Andor bearish spread in this case you would be making uh the the trade itself would be doing better in a neutral or a bullish environment now let's take a look at the spread itself again we're short the 88 put spread or the 8580 put spread at a buck 35 maximum gain again for the put spread same thing the maximum gain is what you sold the thing for maximum risk is the difference in the strikes as far as how much can the spread be worth which is five bucks minus what you took in when you sold the spread so that gets you to 365 again your margin is likely going to be depending on your account the actual amount that um is the difference between the strikes minus what you took in and your break even here is 8365 so this is the D this is the difference between the put credit spread and the call Credit spread in the case of the call Credit spread you take the premium you took in and you add it to the bottom strike of the call Credit spread to get your break even in this case because it's a put the 8085 put spread is worth a buck 35 and you sold it you are actually Tak taking that number 135 and subtracting it from the upper strike of the put spread so that's the difference between the put the put uh break even and the call Break Even but the concept is the same you're taking that amount that you took in and you're adjusting the actual break evens in opposite directions on the call side you're moving it up on the put side you're moving it down and adjusting for the total amount of Premium that you took in to get your break even point now this I said Theta exists for call spreads and put spreads and that is most definitely true what is the spread worth at XYZ at 88 half in 21 days or seven days it's going to theoretically be worth less because again those forces of theta but it's not guaranteed but it is one of those things that is working in the background as a force in the options Market extrinsic value is coming out of these options in Theta amounts per day theoretically if you keep all of the other factors the same let's take a look at the actual p&l graph from an expiration perspective the 8085 put spread remember you took in 135 will build this pnl graph just like we did the other one Max profit is a buck 35 that's above 85 if the stock finishes above 85 that's where you're going to make your max profit Max loss is going to be the difference in those strikes minus the amount that you took in that's 365 and Max loss is going to happen when the spread is worth the most that it can be worth and where is that anywhere below 80 as far as the 8085 put spread so the max loss is 365 and then again in between those two strikes you have that weird area where the spread is going to be worth something but you don't know necessarily what it's going to be worth until the actual expiration itself happens and your break even again is 8365 that is the amount of the net credit you took in subtracted from the top strike of the put spread that's where you get 8365 as far as your break even is concerned let's look at exactly the same thing on the put side that we looked on the call sprad there are three ways this can go out stock above 85 or equal to 85 right you're going to keep the 135 credit and both of these options theoretically go out worth zero or or without value and theoretically unexercised if that's the case everyone goes home and you get to keep the buck 35 and you if you want to you can do it all over again but again your assignment risk here is on this 85 strike where you're short that put if the stock is very close to 85 you have some uncertainty about how this is going to play out and you need to think about that in terms of expiration and assignment risk this is now the fourth or fifth time that I have said this the only way to completely remove assignment risk from your position is to close those positions where you are short options and you have incurred the liability to deliver stock to someone else if you want to take assignment risk completely off the table you need to close those positions before expiration that's the only way to do it let's talk about what happens if you're above sorry if you're below 80 the opposite of this circumstance again the spread is worth five bucks theoretically at expiration it's worth the most that it can be worth you collected 135 your max loss which is going to happen below 80 on this put spread that you sold is the difference in strikes $5 minus what you received when you sold it or 365 in this case if the stock goes out below 80 you can have relative certainty that your 85 put is going to be assigned that you're going to be assigned on your 85 put which would get you what long stock at 85 basically synthetically and if the stock goes out well below 80 you are going to be in a financially incentivized position where you're probably going to want to exercise your 80 put and be short stock at 80 if the Stock's trading 75 I would imagine that both of these options are going to be exercised in one case someone else is going to be exercising and you're probably going to be assigned it's likely and in this case in the 80 puts you're going to be exercising and someone else is going to be getting assigned but either way your risk is in between these two strikes and again where is your assignment risk your assignment risk is centered in the liability that you have incurred by selling this 85 put always keep that in mind now what is the real interesting part it's in between 80 and 85 just like it was on the call spread in between 90 and 95 things get to be really interesting again in this case you could be in a situation where you've sold this for a buck 35 and the stock could be just below 85 and you're actual um the actual trade could be profitable but you also May incur the actual assignment risk of being short that 85 put and if you don't pay attention to it you may come in on the Monday after expiration and wonder why you're long stock well the reason why you're long stock is because the stock finished below your short strike and you didn't remove the assignment risk that you incurred when you sold that put so let's make sure when we're getting close to expiration especially and when you're close to strikes where you're short that you're paying attention to that because that can be a major risk especially if you let it come off of your radar and not pay attention to it so what I want you to do is think about the put spread that we're talking about here and the call spread that talked about previously and I want you to visualize both of those p&l graphs they look very similar but in just flipped directions once to the upside one's to the downside and then we're going to stick them together to make the iron Condor think about what that looks like in your head because that is essentially how Iron Condors work and the component pieces that they're made up of there are some people who think that stocks are range-bound and they're neutral on the stock and they don't care if it goes up a little bit down a little bit they think it's just going to be in a range in that situation many people will utilize these iron Condors because what you're doing is selling premium on both sides of the price distribution you're selling the call spread and you're selling the put spread and in that case what you end up with is an iron Condor that involves both of those spreads combined into one what is an iron Condor it's pretty simple it's the two spreads that we just talked about stuck together into one giant position it's the sale of a call Credit spread generally speaking it's out of the money it's the sale of a put credit spread also generally speaking that is out of the money and you put them together and what do you get the same underlying the same expiration month both spreads are employing these outof the money options you get the iron Condor we're going to stick these two spreads together and talk about it this is the example that we're going to use to talk about it again 88 half we're using these same spreads that we just looked at in real close like granular detail and we're going to stick them together and make an iron Condor so in this case you think that this the expected price range is between 85 and 90 somewhere close to where we are right now again you've got 28 days to expiration XYZ stock still trading 88 half theoretical XYZ stock still trading 88 half we are going to theoretically sell that 9095 call spread remember we sold it for a buck 70 sell that 8085 put spread again both of these are credit spreads because you're selling both of them 170 and 135 your net credit is now the combination of both of these premiums or $35 what this is going to show you is a typical iron Condor again it happens generally speaking in the same month utilizing the same underlying different strikes and with outof the- money options out of the money call spread out of the money put spread for those of you who are um bird people I know this is not a condor this is a hawk but we are going to uh move on anyway because I couldn't find a condor um a picture of a condor for the for the uh for the slides so we're going to sell the 8085 put credit spread and the 9095 call Credit spread our combined total is 305 worth of Premium that is our maximum gain just like when you sell the put spread for a certain amount that is how much you can actually gain on this strategy when you sell the full iron which is the call spread and the put spread the combined amount of Premium is your maximum gain just like if you were just to sell the call spread just to sell the put spread maximum gain is 305 Max risk again is the total amount of the distance between those two strikes minus what you've already taken in now this is an interesting point which a lot of people will ask really good questions about which is how can you get a maximum gain of 3055 and your maximum risk is only a buck 95 it doesn't go up that much the answer to that is can an outof the money call spread and an outof the- money put spread both be worth the maximum that they can be worth at expiration and the answer to that question is absolutely not that's not how options work an outof the money call spread could be in the money at expiration but if the outof the- money call spread is in the money at expiration that outof the money put spread can't also be in the money only one of these spreads can be worth its maximum amount at expiration of$ five you can't have both of them be worth $ five do at expiration now with that said there are circumstances which I think it's important to talk about where in between the time that you sell this strategy for 305 theoretically and it expires that both the call spread and the put spread could theoretically be in the money at different points in time and thus possibly force you to make decisions that you don't necessarily want to make that is all part and parcel of the risk reward Matrix that you're creating by selling both an outof the- money call spread and an out- ofthe money put spread I've definitely been in scenarios where I've had on an iron Condor and I've had to make decisions in between the time when I've sold it and the time that it expires where I have to decide whether or not I think the put spread is going to finish in the money because it's in the money right now or I have to think about whether or not I think this call spread is going to finish in the money because right now it's in the money sometimes what happens is it'll trade through both of those strikes and then finish right in the middle where both of them are out of the money but that's not guaranteed and it's one of the things that you have to have on your risk radar when you're thinking about these spreads and when you're thinking about choosing strikes specifically as to how you're going to put it on before you trade traded again margin here is going to be your maximum risk generally speaking that can vary from account to account but your break even here again is the full amount of the premium that you've taken in added to and subtracted from those inside strikes you add it to the inside call strike you subtract it from the inside put strike and this obviously excludes transaction costs now what does this look like the 9095 call spread and the 808 5 put credit spread for 305 looks like this remember what we talked about this is your iron Condor p&l at expiration so what happens here is that in between these strikes between the 85 and the 90 strike you can imagine if you're going to expire in here is the 9095 call spread worth anything likely not and is the 8085 put spread worth anything also likely not so in that case if you were to expire in this what we would call really The Sweet Spot of this strategy both of these call spreads and put spreads are going to likely expire without value and the $35 that you sold the the premium for for this entire strategy is going to be yours to keep without having to incur any of the obligations from the 85 or the 90 strike where you're short on options again if you go through the 85 strike to the bottom to the downside right things start to get a little bit interesting with your put spread and if you go through the 90 strike to the upside things start to get a little bit more interesting for the call spread but really that is how you need to employ these break even numbers and think about them relative to your position the combined credit of 305 really pushes this break even all the way up to 9305 and pushes this break even all the way down to 8195 when we're talking about the combined total premium for this strategy and so this is really what the iron Condor p&l looks like and the Dynamics that exist if you were to for instance take this platform out of this p&l graph and it just had the 87 half strike in here that would be what we would call the the Iron Butterfly which would mean you don't have any distance necessarily between the put spread and the call spread in that case you would the the bottom strike of the call spread and the top strike of the put spread would be the same where you would be actually short the straddle and not short the inside strangle but we can talk more about that next week on the 19th when we continue this I hope that this has been informative and Canen do we have some time for some Q&A hey Matt how are you good presentation hear me okay I can I can hear you thank you for all that information that was really great um so we have been getting some uh pretty good questions um so so somebody uh was asking about utilizing an exit strategy now obviously as you mentioned before we're not registered advisors we can't give advice on um you know on risk management or whatnot because everybody's uh individual risk tolerance and forecast is going to be different but um he's talking about well uh once you reach 50% of your premium um is that a good time to take off the spread before expiration so you know once again I mean you'll probably say the same thing as I do but um you know this is going to vary from Individual investor to individual investor I mean the likelihood of the you know stock ending up right between strikes um I mean it's possible but uh you know once again if you're you're sitting on a 50% gain you might just take it off early right I mean I don't know if you want to add anything to that yeah I think that the interesting part about that right is is exactly what you said as far as the um as far as the fact that it's going to vary from investor to investor and the motivation that those people have relatively speaking also right it's going to it's going to also you need to take and factor in whether or not the thesis that you used when you originally put the trade on still exists right that's part of I think the decision-making process that many people use is if you think that the stock is you know theoretically supposed to stay between 85 and 90 when you're selling this iron Condor and it's still there like you know and the and the premium that existed in this trade is 50% less than it was at the same time you need to really consider whether or not the trade that you have on is the same trade that you had on that you wanted to put on in the first place because I can tell you this from experience selling an iron Condor for $35 Cent which is what we talked about in this case and selling an iron Condor for you know a dollar are to completely different trades right like right we we at the beginning of this one of the things that I built into those slides is the amount that you sell the spread for is directly related to what your profit potential is and so if your profit potential has gone down by 50% you need to think about the whether or not you're twice as sure as you were to begin with as to whether or not the trade is going to be profitable right I think that the real the real thing you need to think about is selling an iron Condor for three bucks and selling an iron condor for a buck are two completely different trades so think about that as far as you know your risk tolerance is concerned right this is the beauty of spreads like you know up front what your maximum reward is and your maximum risk is within the spread itself so you know knowing that um you can decide you know based on your tolerance and your risk forecast you know your risk tolerance and your forecast like what strikes you want to Target um another question that somebody mentioned um and gets to the same subject but um it's regarding uh how would you use Delta to uh maybe come up with strike selection um for an iron Condor yeah that's interesting um lots of people so there's a couple of different ways that people think about Delta first and foremost one way I mean the technical definition of delta for those people who are uninitiated to the concept is Delta is the amount that an option should theoretically move in price terms based on a $1 move in the underly so you can think about it in that way in a very technical way but a one way that people take that technical definition and kind of overlay it on the marketplace is people will think about Delta of an option as the marketplace's best guess or forecast as to the percentage chance that that option is going to finish in the money and so in that case what you're really dealing with is someone who views it in that way is going to say to themselves this 50 Delta call has a 50% chance of finishing in the money as the market is the market is telling me that that is its forecast for this call if you think about it in that term and you kind of like take the next step in that process what you're you know one way that you might think about it is like what Delta do I want what percentage chance theoretically speaking do I want for this option to be in the money between now and the time that it expires right I mean like the the same can hold true like I said there's a difference between selling a a a condor for three bucks as opposed to a buck there's a big difference between selling a 10 Delta call and a 60 Delta call right there's going to be a a difference in premium there's going to be a difference in the Greeks that it throws off that it creates in your position but it's also going to be a difference in how sensitive your position is to movement of the underlying and so in that case you know if you're someone who might who who doesn't really want to look at things like that you might want to build that into your expectation as to the the the actual strikes that you use because selling lower Delta theoretical spreads in this case would you know as far as your model is concerned if you're a person who thinks about it in those terms is going to put you into a situation where theoretically you might not have to worry about it as much as far as the movement of the underlying is concerned and thus you might you know it might more closely match your investment style or your investment thesis but the real answer to that question is it has to match your risk tolerance and it has to align with how you want to trade and how you want to actually monitor these positions the one thing that I think is really important that I tried to get across as much as I could is that when you start talking about multi-leg strategies when you're dealing with short options and long options they start to get a little bit more complicated as far as managing the actual strike risk that you have on right and again the only way to fully remove assignment risk is to not be short those strikes because that's where you incur those liabilities so make sure that if that's something that you want to take off the table that you need to be monitoring that and if you're selling strikes that are closer to at the money you're probably going to have to monitor it a little bit more because it's gonna move around a little bit more as far as your strikes are concerned so that's how I I would agree yeah um so I think we have time for one last question so somebody was asking can I close the legs independently and I guess the quick answer is yes but keep in mind that when you close say one leg of a four-legged spread okay now you've completely changed the risk reward profile of that position right so if you have an iron Condor on yes if you just buy the short legs now you've taken off the assignment risk but if you close one of the long legs you're still left without that assignment risk so I I guess it really depends you know really what what strikes you you know decide to close down but yes can close uh the legs independently or one side or you know however you want I don't know if you want to add anything to that um but uh yeah I think that's that no Ken that's really well said and I think uh a risk that people need to keep on their their headline risk numbers as far as when you start to kind of monkey with the position in that way and you start to adjust it by maybe buying back those options or selling out the long options that you have for instance you're definitely going to change this you know this p&l graph at expiration that I've got up right here doesn't look the same if you're not short the 85s and long the 80s anymore right it looks completely different so make sure you pay attention to that one other thing that people can do and that people a lot of people really use this for is that you can leg into those spreads as well as well as legging out of them right legging into a spread means you essentially utilize the underlying movement in the stock when it presents certain circumstances where you think it might be a good time to sell the put spread because it you know it might be worth more than it traditionally would be worth at that point in time and then the stock may go up and the call spread may go bid slightly and you you know you think it might be a good time to sell the call spread sometimes people leg into these in that way and generally speaking if people who leg into them sometimes also leg out of them in that way right they T they they choose different times to trade the call spread or the put spread but I think it's also important that you realize that the marketplace in the United States as far as options are concerned is extremely robust and these iron condors and Condors in general and butterflies are very often priced as one price and will show up in your you know execution software as like $3 at 310 and um if you want to it's always it's not always but oftentimes it's available to just execute the entire trade as one trade and that can be very advantageous if that's the way you want to trade it as well so you know most of the time when we talk about options we talk about them as infinite infinitely customizable and that is true the other part about options that is infinitely customizable is how you can execute them right like how you can trade into and out of them because you can trade into pieces of this just like you can trade out of pieces of it and you can also trade it as one big price so it's you know it's kind of infinitely customizable in that way as well well said well I will hand it back to you so you can wrap it up but uh thanks for a great webinar and we look forward to hearing you again next week absolutely I really appreciate everybody coming today I hope that we got to all of the questions and gave you some really good information next week on the 19th 7 days from now at this very exact time we're going to be continuing the conversation about iron condors and butterflies we'll dive a little bit more deeply into how these spreads work and their Dynamics and as always if you are in a situation where you have questions about options you can always feel free to email us at optionsthe occ.com that email comes into the investor education desk where Ken and roma and Mark and I sit and we spend all day every day answering questions and we love to do it so make sure to check back with us next week at this same time and we'll see you soon thanks a lot for joining us

hello everyone and thank you for joining us today for the first of a two-part webinar series that I&#39;ll be presenting here at OIC during our summer of spreads my name is Matt hashman I&#39;m the principal of investor education at OCC as well as an options Industry Council instructor today we&#39;re going to talk about iron condors and iron butterflies I&#39;m going to dig into the vertical spreads that make up the larg larger multi-leg strategies and I&#39;m going to talk a little bit about how each of those spreads work independently and then we&#39;re going to put those spreads together to show how they form the iron Condor and the Iron Butterfly we&#39;re going to dive into the potential risks and rewards of these slightly more complex but multi-leg strategies and have some discussions about how might you use them when they align with your investment goals just to give you a little bit of background on myself I started trading around 1998 I&#39;ve been an options Trader ever since I got my start in Chicago trading equity and index options pretty quickly after that I moved to London and traded interest rate options there for about three years and eventually I moved back stat side where I started and ran an index options Market making operation for the better part of about a decade in Chicago again on the floor of the CBOE currently I work at the OCC helping indiv individuals and investors to better understand both the risks and the benefits of exchange traded options through efforts like the webinar that you&#39;re watching today now we always include a disclaimer to make our lawyers happy options involve risk they&#39;re not suitable for everyone any strategy that I discuss including examples using actual Securities or Price data strictly for illustrative and educational purposes should not be construed as an endorsement a recommendation or or a solicitation to buy or sell Securities past performance as always is not a guarantee of future results one other tiny bit of housekeeping the following trademarks logos and service marks displayed are owned fly by the options Clearing Corporation you&#39;ll see them used throughout the presentation today one little bit about the OIC the options Industry Council the options Industry Council is the educ tional arm of our parent company the options Clearing Corporation which you&#39;ll see right here this is our OIC logo and the OC logo obviously OC or the options Clearing Corporation is the largest Clearing Corporation of equity and index exchange traded options in the world OIC the options Industry Council started out as a collective in 1992 to better educate the public as to the risks and benefits of exchange traded options currently we continue continue to pursue that goal mainly through the utilization of our website which you&#39;ll see right here options education.org there you will find online courses podcasts videos and webinars like the one you&#39;re listening to now we are able to provide these Services free of charge to the public because we are fully funded by our parent company the OCC now I work at a division of the OCC called the investor Services desk or the investor education desk where I sit with three other colleagues you can send us email questions related to options at this email address right here I strongly encourage people to utilize and lean on this service at options the occ.com this again is a free service we extend to the public as well it&#39;s important to note we&#39;re not registered investment advisers so we can&#39;t direct you on trades we can&#39;t suggest investment strategies but what we can help with and what we love to help with is we love to leverage all of our experience and answer general questions about options about optionality and the theoretical knowledge surrounding the options ecosystem amongst the four of us that sit on the investor education desk at OIC we have over 100 Years of Industry experience surrounding options and we are always happy to help in whatever way we can to further Advance your understanding of options and how to responsibly use them in your investing now I am very fortunate to have two of my colleagues that sit on that desk with me today handling the Q&amp;A portion of our webinar please say hello to Roma and Ken they will be answering your questions live during the presentation on the chat make sure to use that chat function if you have questions and provided we have enough time uh they&#39;ll be facilitating some Q&amp;A at the end of the presentation so make sure you&#39;re nice to them because they&#39;re both very nice people and they&#39;re also extremely knowledgeable about options so let&#39;s Dive Right In anytime that I present about options this is always the first slide that I present it is obviously annual options volume from 20 to 2022 OCC annual contract volume by contract type so this is the amount of options that the OCC is clearing on a yearly basis the thing that you need to understand about this is basically the Trend that we are seeing this is essentially encompasses the Advent of high frequency trading is right around the 2000s and what you can see from this graph is obviously just an absolute explosion of interest in options most of this has been concentrated over the last two years over the last two two and a half three years right around there um many people disagree about why or where that is all coming from but the uh reality of the situation is that these numbers are real and that they are sticky and they&#39;re not going anywhere because the 2023 numbers are looking very similar if not more than the 2020 new 2022 numbers at this point so we are going to be well north of 10 billion contracts again this year that works out to over 40 million contracts cleared per day from my seat from an Educators perspective what this means is that what we do at OIC educ a surrounding the options ecosystem is that much more vital now than it ever has been because we want people to actually understand what they&#39;re doing when they walk into an options Marketplace and understand the risks and the benefits of the way these contracts work they are complicated investment strategies but they&#39;re not so complicated that you can&#39;t use them you just need to understand how they work and that&#39;s what we do here at OIC we utilize all of our experience to make sure that understand the risks and the benefits of these contracts so with that said let&#39;s Dive Right into what we&#39;re going to talk about today condors and butterflies iron condors and iron butterflies are made up of vertical spreads so in order to really get to the heart of how these full spreads work we have to talk about the pieces so we&#39;re going to talk about those pieces we&#39;re going to talk about an overview of vertical spreads we&#39;ll dig into the call Credit spread specifically the put credit spread also we&#39;ll talk very specifically about how those two spreads work because those are really the building blocks of that&#39;s right the iron Condor and the Iron Butterfly after we put all of that together hopefully at the end we&#39;ll have some time for a little bit of Q&amp;A where you might be able to ask some really specific questions about how these things work aside from the specific questions let&#39;s start with the most general knowledge about this topic and that is what is a spread a spread transaction involves two or more positions generally speaking it&#39;s a buy and a sell but sometimes it can be a buy and a buy if you&#39;re talking about things like straddles or strangles those are theoretically spread transactions because they have more than one position in them but the spreads we&#39;re going to be talking about today are very specific call spreads and put spreads and generally outof the money call spreads and put spreads but in this this case you are buying or selling one option and then buying or selling another option against it you&#39;re talking about two options in one transaction generally speaking now when we&#39;re talking about these spreads specifically as far as iron condors and iron butterflies are concerned these likely have the same underlying they&#39;re traded on the same stock basically they likely have the same expiration dates most of the time generally speaking when people are trading Condors or butterflies like this they&#39;re trading them within one month they&#39;re trading them in like all in April or all in May or all in June most of the time they have different strike prices you&#39;ll see how those strike prices line up as we build this these complicated spreads together these complex strategies together and sometimes they have different quantities on each line now in the case that we&#39;re going to be looking at today most of these have the same quantities but OCC occasionally people adjust the spreads once they trade them or they trade into them in different ways that will have different quantities on different lines the thing you need to understand about that is if you have different quantities on different lines you&#39;re going to have a different risk profile and it may affect how defined your risk is as far as whether it&#39;s closed or open-ended risk so we can look at that a little bit long a little bit further on in the presentation but some can also involve stock positions one thing that comes to mind when I think about that is occasionally a spread that a lot of people utilize and that many people think about is a very well-worn options strategy the byright which is basically just being short calls against an underlying long stock position many times the bught is actually quoted as a spread and what it when people quote it as a spread they sometimes utilize the actual notional value of the stock and then take apart from that the notional value of the call that you would be selling against it and quote it as one price that would be a situation in which a spread a quoted spread could also involve a stock position now the positions that we&#39;re going to be talking about today don&#39;t necessarily involve stock positions that are underlying these options these are all option strategies but it is possible to involve stock positions in spreads so now that we&#39;ve talked very generally about what a spread is let&#39;s talk about the specific type of spread called the vertical spread vertical spreads are a specific type of spread where you are buying one option and you are selling another option generally the same underlying and expiration different strike prices we&#39;ll get to that they provide defined risk and reward characteristics there are two main types of spreads what are they they are the debit spread and the credit spread so how do these work well debit spreads are exactly what they say they are they are a spread that you have paid for that you are debiting your account a certain amount of premium in order to have the spread on you can create a debit spread with calls or with puts secondarily credit spreads are the exact opposite of that they&#39;re still a spread they still have all the same characteristics of a spread with the exception being that you have taken in a credit in order to put this trade on now generally speaking debit spreads if you&#39;re trading them in vertical spreads are going to be spreads where you are buying the inside strike or the strike that is closer to the at the money and selling the farther away strike that is farther away from at the money why is that that&#39;s because if you know anything about optionality you understand that options that are closer to at the money options are going to be worth more theoretically speaking than options that are farther away that&#39;s just based on the actual price distribution and how people value options credit spreads conversely if you trade those you are going to be probably selling the closer to at the money option and buying the one that is farther away because the difference in those two option prices is what&#39;s going to create the debit or the credit debit spreads you&#39;re paying premium to initiate the position credit spreads you are receiving that premium to initi iate the position so now that we&#39;ve talked really generally about spreads on their own and these specific types of spreads vertical spreads that we use to create these option condors and butterflies let&#39;s talk about them individually let&#39;s start with the call Credit spread call Credit spreads generally have motivations from the investor of a neutral or a bearish outlook on the underlying because they are a spread they have defined risks and rewards where does that come from that comes from the fact that you&#39;re buying one option and selling another option against it that&#39;s what creates a defined risk reward if you were to say buy both of the options or sell both of the options you would have a significantly different risk reward and in some cases you might not have defined risk reward in the case of something like a straddle if you were to sell a straddle which is selling the at the money call and the out the money put you do not have defined risk you have what we call undefined risk or open-ended risk because you are just short options in that case remember when you sell options you are incurring liabilities and when you buy options you are paying for the right to do something and so when you combine those two things selling and buying what you end up with is this interesting balance of defined risk and reward at certain points on the p&amp;l curve you are incurring that liability that comes from your short option and at certain points on the pnl curve you are actually theoretically economically incentivized to exercise the option that you&#39;re long and thus take yourself out of the risk that you&#39;re incurring with your short strike and so defined risk reward means exactly that when you&#39;re trading a spread and you have one long option and one short option that&#39;s where that comes from now now they generally have a favorable Break Even point because the credit that you are receiving moves your break even point on the spread we&#39;ll talk about that and I&#39;ll show you very clear examples of how that works on both the call side and the put side during this presentation a little bit later now the last point is your profit potential when you&#39;re selling call spreads or selling put spreads is heavily influenced by the amount of credit received I think this is pretty intuitive but it Bears mentioning because a lot of people will ask questions that point to the idea that they don&#39;t necessarily understand how this works if you sell a spread for more money then theoretically your profit potential is more because you&#39;re actually getting the credit for selling the spread and if you&#39;re receiving more money you actually have more profit potential now risk control as far as these spreads are concerned again you have defined profit potential and you have defined maximum losses that is how this defined risk reward works on both of those sides the interesting thing here is that when you start to combine two options one versus the other and especially when you&#39;re selling one and buying another what that creates is a situation in which you need to stay on top of your position as far as position monitoring is concerned because and I&#39;ll show you this with these expiration p L graphs as we go that as you get closer to short strikes or long strikes your actual risk changes significantly and the dynamic of the risk that you have on is different based on where the stock is relative to your short strike and your long strike so that&#39;s why position monitoring is really critical when we&#39;re talking about spreads and call spreads and put spread specifically now let&#39;s look at a really specific example of a call Credit spread and the risk reward dynamics of this specific spread in the next couple of slides we&#39;re going to talk very specifically about stock XYZ which is not a very specific stock but that&#39;s what it is XYZ stock theoretical XYZ stock is trading 88 half I&#39;m going to utilize this theoretical stock throughout the presentation to try to give you a really kind of thorough uh you know it&#39;ll it&#39;ll be the through line through which all of these examples are built so that we can build this full example piece by piece using the same stock XYZ stocks trade in 88 half we&#39;ve got 28 days to expiration remember we&#39;re trading a call Credit spread we are going to sell the one 28 day 90 call and buy one of the 28 day 95 call remember when we talk about call condors and iron condors and iron butterflies generally speaking they utilize outof the money spreads out of the money call spreads sprs and out ofth money put spreads this is an example of an out ofthe money call spread why because both of these strikes are out of the money stocks trading 88 half the 90 call is out of the money and the 95 call is out of the money now each one of these obviously has their own price but the net credit of this transaction is a buck 70 you&#39;re selling the 90s for 350 you&#39;re buying the 95s for a buck 80 your net credit is a buck 70 here in this case and this is true of all options anytime that you sell option premium and you are credited that amount that amount stays in your account regardless of what happens what differs is when you get to a situation where you might have expiration or assignment risk those risks start to come in and actually change the dynamic of the p&amp;l of your position but the net credit that you actually receive when you sell these spreads never changes the net credit is $1.70 that&#39;s in your account and it&#39;s staying in your account regardless if you were to sell the 90 calls and buy the 95 calls and then write it down on a position and slide it over to me and say what is this I would say oh it looks like you&#39;re short the 9095 call spread that in the parlament of the way that option Traders talk about positions that&#39;s what this is this is the 90 95 call spread it&#39;s the out ofthe money call spread and you&#39;re short the bigger option and long the smaller option you are short the 90s long the 95s for that you have gotten a credit of a buck 70 this is generally a neutral or a bearish call spread why because this spread is going to do better in a circumstance where almost nothing happens to the stock or if the stock goes down and is farther away from these 90 and 95 strikes generally speaking if everything else stays the same both of the prices of these options is going to go down because you&#39;re farther away we talked about that when we talked about the spread itself right the the actual option that is closer to at the money generally has a larger price than the one that&#39;s farther away so that would follow then that both of these options would go down in value as the stock were to sell off that&#39;s what makes this a neutral or a bearish call spread now let&#39;s take a look 9095 call spread you&#39;ve sold it for a buck 70 let&#39;s take a look at the math behind here again the maximum that you can make when you&#39;re selling a call spread like this or selling a put spread as you&#39;ll see in a couple of slides is the amount that you took in the premium you received when you sold the spread so your maximum gain is a buck 70 on this now keep in mind when you&#39;re looking at this from a notional perspective options are priced in dollar per share amounts and so because these options generally control a 100 shares of stock as an American style option in the United States what this represents is 170 bucks that is how much this is in notional terms now your maximum risk is different your maximum risk is basically how much can this spread be worth at its maximum point and the answer to that is any spread like this can only be the distance between the two strikes 90 and 95 so the max it can be worth is five bucks but like I said before when you sell these spreads and you get a credit the credit stays in your account so what&#39;s your maximum risk it&#39;s the full amount of the spread minus what you&#39;ve actually taken in $5 minus 170 gets you to 330 because your maximum risk is 330 generally speaking in a margin account that&#39;s what they&#39;re going to ask you to put up is to cover your maximum risk this can vary from account to account but generally speaking that&#39;s how it works and what this means is that your break even is 9170 now your break even is 9170 because in the case of a call Credit spread when you collect this amount of Premium the way you take the way you take a look at your break even is you add the maximum gain of a buck 70 to the bottom strike of the call spread the spread that the the strike that is closest to at the money you at it meaning the 90 strike plus the amount that you&#39;ve taken in in premium is what creates your break even so in this case it&#39;s 9170 now let&#39;s talk a little bit about Theta many of you that know about Greeks or that have been to some of our presentations that cover Greeks will understand and know intuitively what Theta is for those of you who don&#39;t know what Theta is Theta is the force that erodes options on a daily basis it is time premium or extrinsic premium coming out of options over time and it is a measure of how much these options are worth if you were to fast forward your clock by 24 hours meaning this exact point in time 353 tomorrow afternoon this option is going to be worth theoretically if it has eight cents of theta 08 is going to be worth 08 less than it is now if all the other factors stay the same as far as your model is concerned what does that mean it means in 21 days theoretically these spreads are going to be worth significantly less than they are right now if the stock is at 88 half and if all the other factors have remained the same in seven days it&#39;s going to be worth a little bit less not quite as much less as it would be in 21 days but this is the force of theta Theta is working against these options valuation on a daily basis it works on put spreads and call spreads it works on all options essentially it is a force it is a measure of time coming out and how we actually quantify that in terms of value so let&#39;s look at the p&amp;l graph of what the spread looks like at expiration and really build it from the ground up we&#39;re selling the lower strike call the 90s we&#39;re buying the higher strike call the 95s for that we have collected a net credit of a buck 70 Max profit again is how much you&#39;ve taken in to sell the spread you&#39;re never going to make more than a buck 70 if you sell the call spread for a buck 70 and that&#39;s all you have on that&#39;s the most you can make and that&#39;s going to exist right up until the point where the stock hits 90 and starts to actually expand that call spread in p&amp;l terms if it&#39;s 90 or below your max profit is a buck 70 which is what you actually took in your max loss remember what we said max loss is when the actual spread is worth the most that it can be worth well the 9095 call spread is worth the most it can be worth anywhere above 95 because the spread itself is going to be worth five bucks it can&#39;t be worth any more than five bucks a fivepoint call spread when it&#39;s designed like this cannot be worth more than $5 and so above 95 that call spreads worth five bucks at expiration however what did you take in you took in a buck seven 70 so your max loss is 330 that&#39;s $5 the distance between the strikes minus what you took in Max loss is 330 this is the interesting point in between 90 and 95 you have this kind of nebulous area where the spread is probably worth something but it&#39;s not worth as much as it can be worth until you get above 95 like we said and so in here that is where your break even comes into play 9170 again is the break even it&#39;s a buck 70 of that net credit added to the bottom strike of the call spread now what happens at expiration if the stock is below or equal to 90 this is your actual p&amp;l you&#39;ve made a buck 70 we just said that right the most that you can make on this spread is what you take in in credit when you sell it and when does that actually exist it happens with the stock below 90 that&#39;s the most that you can make now your assignment risk if stock is very close to this short strike remember you&#39;re short the 90s and long the 95s when you&#39;re short the call Credit spread if you&#39;re close to this short strike you have uncertainty about assignment of your short 90 calls it can result in some uncertainty of a of a potential stock position after expiration I&#39;m GNA say this multiple times during this presentation the only way to fully remove assignment risk on your positions is to either close the positions or close the actual short strikes that you have on in this case your short the 90 calls remember I&#39;ve said this before when you sell options to someone else you are incurring the liability of delivering stock at that strike price on or up to the actual expiration of the option when you buy the options you are paying for the right to do that you&#39;re paying for the right to exercise that option in this case you&#39;re short the call in this case on the 90 strike so you are incurring the obligation to deliver the stock at 90 if someone were to exercise that this is where your assignment risk comes from again the only way to fully remove assignment risk is to close down those short strikes or to close the entire position completely now let&#39;s talk about the other potential thing that happens at expiration what happens if it goes all the way through both strikes through 90 and through 95 well guess what the the actual is worth the most that it can be $5 remember the distance between 90 and 95 is the most that it can be worth the difference in strikes minus what you&#39;ve received already a buck 70 gets you to your max loss of a 330 that is the case above 95 now in this case the 90 strike is really very likely going to be exercised by someone who owns it which means you have a high probability of being assigned on it but the interesting part here is that you still maintain the right to exercise your 95 call in this case if the stock were to go through both strikes you would be theoretically economically incentivized to actually exercise that 95 call because you would be short stock from being assigned theoretically on your 90 strike and thus you could exercise your 95 strike if the stock were trading higher and get yourself out of theoretically the short stock position that you would have from this short call that you would incur that liability to deliver stock at 90 to whoever exercised it so that&#39;s what happens or what could happen if the stock blows through both of those strikes to the upside let&#39;s talk about the really interesting part which is what happens if it&#39;s in between it&#39;s in between the 90 and the 95 strike you have a little bit of a a situation that you need to really keep a very close eye on remember you collected a buck 70 when you sold this spread however you could expire somewhere in between 90 and 95 where the spread itself could be theoretically profitable from where you sold it but you could also incur a significant amount of assignment risk let&#39;s say for example that the Stock&#39;s trading 91 when these two options expire well you sold it for a buck 70 what did we decide is your what did we calculate is your break even your break even is 9170 you&#39;re below your break even so theoretically this spread is profitable but what&#39;s going to happen most likely is that whoever owns this 90 call at expiration with the stock trading right here 91 is probably going to punch that call or exercise that call and if there&#39;s a high likelihood of people exercising that call you probably have a decent probability of being assigned on that call when you get assigned on the 90 call you are short stock you are incurring the liability to deliver stock at 90 which makes you short stock from 90 and so that&#39;s a situation in which the stock could be trading in a way that makes this spread profitable from where you sold it but you still have risk I&#39;m going to say it again the only way to fully pull out your assignment risk is to not be short this 90 call that&#39;s the only way to actually do that and that case you might consider things like buying the 90 call back or buying the 9095 call spread back to close those positions and thus counteract your assignment risk make sure you think about that when you&#39;re especially when we&#39;re getting close to expiration now the actual call Credit spread and the put credit spread have very similar Dynamics as far as the spread part of them but they just work in opposite directions so let&#39;s blow through that on the put side and talk about it really quickly it&#39;s the other component of these complex option strategies right it&#39;s the put credit spread it&#39;s the other side again the Dynamics work exactly the same as the put side but they work in the opposite direction so let&#39;s explain by giving you some motivations that people use when they trade put credit spreads and then we&#39;ll talk about it through an example put credit spreads motivation are very similar to call Credit spreads but in the opposite direction in this case you would be neutral and bullish on the outlook for the underlying they again because they have a short option and a long option to find risk and reward and the premium that you take in the credit that you receive when you&#39;re selling put credit spreads generally moves your break even in a favorable way now it moves it in a different direction I&#39;ll show you that when we look at the actual example of it but again the profit potential is very heavily influenced by the amount of credit that you&#39;re receiving how big that spread is that you&#39;re selling how much premium you&#39;re taking in is directly proportional to how much profit potential you have on this trade again risk control is the exact same on the put credit spread as it is on the call Credit spread just in the opposite direction you have defined profit potential you have defined maximum loss and again position monitoring is critical you have two options that are traded against each other theoretically they are tied in some way shape or form but you have no idea necessarily whether or not they&#39;re going to move in lock step with each other or whether or not the world is going to model them in the same way that you model them from a valuation perspective so position monitoring here again is critical especially when we get close to expiration and especially when we&#39;re talking about stocks that are trading around our short strikes which is where we are incurring liabilities as far as assignment is concerned now let&#39;s take a look at the actual example again we&#39;re going to use the same stock 88 half 28 days to expiration keep in mind we&#39;re going to be trading the outof the money put credit spread here what does the out of the money mean it means that both of these strikes are lower than the current stock price because we&#39;re talking about puts the the 85 puts worth 205 the 8 puts worth 70 cents the net credit on this is a buck 35 again if you were to sell the 85s and buy the 80s and then write it down on a piece of paper and slide it across the table to me I would look at it and say oh nice you&#39;re short the 8580 put spread or you&#39;re sure at the 80 85 put spread some people say it differently as far as strikes are concerned some people say the lower strike first and upper strike second some people do it oppositely than that the interesting thing is that the way that people talk about positions the 80 85 put spread or the 8580 put spread can sometimes be depend on which uh product it is that&#39;s something that I learned firsthand when I would move from product to product to product trading options people talk about strikes in the Euro dollars very in a very very specific way and then in let&#39;s say the S&amp;P 500 they will talk about strikes in a different way as far as the way that they would describe this spread for instance the 8085 put spread it&#39;s an interesting kind of little Nuance of the options Market that sometimes each product has its own language its own dialect within the actual language of options it&#39;s an interesting thing but in this case this is a neutral or a bullish put spread for the exact Contra reason that the call spread is a neutral Andor bearish spread in this case you would be making uh the the trade itself would be doing better in a neutral or a bullish environment now let&#39;s take a look at the spread itself again we&#39;re short the 88 put spread or the 8580 put spread at a buck 35 maximum gain again for the put spread same thing the maximum gain is what you sold the thing for maximum risk is the difference in the strikes as far as how much can the spread be worth which is five bucks minus what you took in when you sold the spread so that gets you to 365 again your margin is likely going to be depending on your account the actual amount that um is the difference between the strikes minus what you took in and your break even here is 8365 so this is the D this is the difference between the put credit spread and the call Credit spread in the case of the call Credit spread you take the premium you took in and you add it to the bottom strike of the call Credit spread to get your break even in this case because it&#39;s a put the 8085 put spread is worth a buck 35 and you sold it you are actually Tak taking that number 135 and subtracting it from the upper strike of the put spread so that&#39;s the difference between the put the put uh break even and the call Break Even but the concept is the same you&#39;re taking that amount that you took in and you&#39;re adjusting the actual break evens in opposite directions on the call side you&#39;re moving it up on the put side you&#39;re moving it down and adjusting for the total amount of Premium that you took in to get your break even point now this I said Theta exists for call spreads and put spreads and that is most definitely true what is the spread worth at XYZ at 88 half in 21 days or seven days it&#39;s going to theoretically be worth less because again those forces of theta but it&#39;s not guaranteed but it is one of those things that is working in the background as a force in the options Market extrinsic value is coming out of these options in Theta amounts per day theoretically if you keep all of the other factors the same let&#39;s take a look at the actual p&amp;l graph from an expiration perspective the 8085 put spread remember you took in 135 will build this pnl graph just like we did the other one Max profit is a buck 35 that&#39;s above 85 if the stock finishes above 85 that&#39;s where you&#39;re going to make your max profit Max loss is going to be the difference in those strikes minus the amount that you took in that&#39;s 365 and Max loss is going to happen when the spread is worth the most that it can be worth and where is that anywhere below 80 as far as the 8085 put spread so the max loss is 365 and then again in between those two strikes you have that weird area where the spread is going to be worth something but you don&#39;t know necessarily what it&#39;s going to be worth until the actual expiration itself happens and your break even again is 8365 that is the amount of the net credit you took in subtracted from the top strike of the put spread that&#39;s where you get 8365 as far as your break even is concerned let&#39;s look at exactly the same thing on the put side that we looked on the call sprad there are three ways this can go out stock above 85 or equal to 85 right you&#39;re going to keep the 135 credit and both of these options theoretically go out worth zero or or without value and theoretically unexercised if that&#39;s the case everyone goes home and you get to keep the buck 35 and you if you want to you can do it all over again but again your assignment risk here is on this 85 strike where you&#39;re short that put if the stock is very close to 85 you have some uncertainty about how this is going to play out and you need to think about that in terms of expiration and assignment risk this is now the fourth or fifth time that I have said this the only way to completely remove assignment risk from your position is to close those positions where you are short options and you have incurred the liability to deliver stock to someone else if you want to take assignment risk completely off the table you need to close those positions before expiration that&#39;s the only way to do it let&#39;s talk about what happens if you&#39;re above sorry if you&#39;re below 80 the opposite of this circumstance again the spread is worth five bucks theoretically at expiration it&#39;s worth the most that it can be worth you collected 135 your max loss which is going to happen below 80 on this put spread that you sold is the difference in strikes $5 minus what you received when you sold it or 365 in this case if the stock goes out below 80 you can have relative certainty that your 85 put is going to be assigned that you&#39;re going to be assigned on your 85 put which would get you what long stock at 85 basically synthetically and if the stock goes out well below 80 you are going to be in a financially incentivized position where you&#39;re probably going to want to exercise your 80 put and be short stock at 80 if the Stock&#39;s trading 75 I would imagine that both of these options are going to be exercised in one case someone else is going to be exercising and you&#39;re probably going to be assigned it&#39;s likely and in this case in the 80 puts you&#39;re going to be exercising and someone else is going to be getting assigned but either way your risk is in between these two strikes and again where is your assignment risk your assignment risk is centered in the liability that you have incurred by selling this 85 put always keep that in mind now what is the real interesting part it&#39;s in between 80 and 85 just like it was on the call spread in between 90 and 95 things get to be really interesting again in this case you could be in a situation where you&#39;ve sold this for a buck 35 and the stock could be just below 85 and you&#39;re actual um the actual trade could be profitable but you also May incur the actual assignment risk of being short that 85 put and if you don&#39;t pay attention to it you may come in on the Monday after expiration and wonder why you&#39;re long stock well the reason why you&#39;re long stock is because the stock finished below your short strike and you didn&#39;t remove the assignment risk that you incurred when you sold that put so let&#39;s make sure when we&#39;re getting close to expiration especially and when you&#39;re close to strikes where you&#39;re short that you&#39;re paying attention to that because that can be a major risk especially if you let it come off of your radar and not pay attention to it so what I want you to do is think about the put spread that we&#39;re talking about here and the call spread that talked about previously and I want you to visualize both of those p&amp;l graphs they look very similar but in just flipped directions once to the upside one&#39;s to the downside and then we&#39;re going to stick them together to make the iron Condor think about what that looks like in your head because that is essentially how Iron Condors work and the component pieces that they&#39;re made up of there are some people who think that stocks are range-bound and they&#39;re neutral on the stock and they don&#39;t care if it goes up a little bit down a little bit they think it&#39;s just going to be in a range in that situation many people will utilize these iron Condors because what you&#39;re doing is selling premium on both sides of the price distribution you&#39;re selling the call spread and you&#39;re selling the put spread and in that case what you end up with is an iron Condor that involves both of those spreads combined into one what is an iron Condor it&#39;s pretty simple it&#39;s the two spreads that we just talked about stuck together into one giant position it&#39;s the sale of a call Credit spread generally speaking it&#39;s out of the money it&#39;s the sale of a put credit spread also generally speaking that is out of the money and you put them together and what do you get the same underlying the same expiration month both spreads are employing these outof the money options you get the iron Condor we&#39;re going to stick these two spreads together and talk about it this is the example that we&#39;re going to use to talk about it again 88 half we&#39;re using these same spreads that we just looked at in real close like granular detail and we&#39;re going to stick them together and make an iron Condor so in this case you think that this the expected price range is between 85 and 90 somewhere close to where we are right now again you&#39;ve got 28 days to expiration XYZ stock still trading 88 half theoretical XYZ stock still trading 88 half we are going to theoretically sell that 9095 call spread remember we sold it for a buck 70 sell that 8085 put spread again both of these are credit spreads because you&#39;re selling both of them 170 and 135 your net credit is now the combination of both of these premiums or $35 what this is going to show you is a typical iron Condor again it happens generally speaking in the same month utilizing the same underlying different strikes and with outof the- money options out of the money call spread out of the money put spread for those of you who are um bird people I know this is not a condor this is a hawk but we are going to uh move on anyway because I couldn&#39;t find a condor um a picture of a condor for the for the uh for the slides so we&#39;re going to sell the 8085 put credit spread and the 9095 call Credit spread our combined total is 305 worth of Premium that is our maximum gain just like when you sell the put spread for a certain amount that is how much you can actually gain on this strategy when you sell the full iron which is the call spread and the put spread the combined amount of Premium is your maximum gain just like if you were just to sell the call spread just to sell the put spread maximum gain is 305 Max risk again is the total amount of the distance between those two strikes minus what you&#39;ve already taken in now this is an interesting point which a lot of people will ask really good questions about which is how can you get a maximum gain of 3055 and your maximum risk is only a buck 95 it doesn&#39;t go up that much the answer to that is can an outof the money call spread and an outof the- money put spread both be worth the maximum that they can be worth at expiration and the answer to that question is absolutely not that&#39;s not how options work an outof the money call spread could be in the money at expiration but if the outof the- money call spread is in the money at expiration that outof the money put spread can&#39;t also be in the money only one of these spreads can be worth its maximum amount at expiration of$ five you can&#39;t have both of them be worth $ five do at expiration now with that said there are circumstances which I think it&#39;s important to talk about where in between the time that you sell this strategy for 305 theoretically and it expires that both the call spread and the put spread could theoretically be in the money at different points in time and thus possibly force you to make decisions that you don&#39;t necessarily want to make that is all part and parcel of the risk reward Matrix that you&#39;re creating by selling both an outof the- money call spread and an out- ofthe money put spread I&#39;ve definitely been in scenarios where I&#39;ve had on an iron Condor and I&#39;ve had to make decisions in between the time when I&#39;ve sold it and the time that it expires where I have to decide whether or not I think the put spread is going to finish in the money because it&#39;s in the money right now or I have to think about whether or not I think this call spread is going to finish in the money because right now it&#39;s in the money sometimes what happens is it&#39;ll trade through both of those strikes and then finish right in the middle where both of them are out of the money but that&#39;s not guaranteed and it&#39;s one of the things that you have to have on your risk radar when you&#39;re thinking about these spreads and when you&#39;re thinking about choosing strikes specifically as to how you&#39;re going to put it on before you trade traded again margin here is going to be your maximum risk generally speaking that can vary from account to account but your break even here again is the full amount of the premium that you&#39;ve taken in added to and subtracted from those inside strikes you add it to the inside call strike you subtract it from the inside put strike and this obviously excludes transaction costs now what does this look like the 9095 call spread and the 808 5 put credit spread for 305 looks like this remember what we talked about this is your iron Condor p&amp;l at expiration so what happens here is that in between these strikes between the 85 and the 90 strike you can imagine if you&#39;re going to expire in here is the 9095 call spread worth anything likely not and is the 8085 put spread worth anything also likely not so in that case if you were to expire in this what we would call really The Sweet Spot of this strategy both of these call spreads and put spreads are going to likely expire without value and the $35 that you sold the the premium for for this entire strategy is going to be yours to keep without having to incur any of the obligations from the 85 or the 90 strike where you&#39;re short on options again if you go through the 85 strike to the bottom to the downside right things start to get a little bit interesting with your put spread and if you go through the 90 strike to the upside things start to get a little bit more interesting for the call spread but really that is how you need to employ these break even numbers and think about them relative to your position the combined credit of 305 really pushes this break even all the way up to 9305 and pushes this break even all the way down to 8195 when we&#39;re talking about the combined total premium for this strategy and so this is really what the iron Condor p&amp;l looks like and the Dynamics that exist if you were to for instance take this platform out of this p&amp;l graph and it just had the 87 half strike in here that would be what we would call the the Iron Butterfly which would mean you don&#39;t have any distance necessarily between the put spread and the call spread in that case you would the the bottom strike of the call spread and the top strike of the put spread would be the same where you would be actually short the straddle and not short the inside strangle but we can talk more about that next week on the 19th when we continue this I hope that this has been informative and Canen do we have some time for some Q&amp;A hey Matt how are you good presentation hear me okay I can I can hear you thank you for all that information that was really great um so we have been getting some uh pretty good questions um so so somebody uh was asking about utilizing an exit strategy now obviously as you mentioned before we&#39;re not registered advisors we can&#39;t give advice on um you know on risk management or whatnot because everybody&#39;s uh individual risk tolerance and forecast is going to be different but um he&#39;s talking about well uh once you reach 50% of your premium um is that a good time to take off the spread before expiration so you know once again I mean you&#39;ll probably say the same thing as I do but um you know this is going to vary from Individual investor to individual investor I mean the likelihood of the you know stock ending up right between strikes um I mean it&#39;s possible but uh you know once again if you&#39;re you&#39;re sitting on a 50% gain you might just take it off early right I mean I don&#39;t know if you want to add anything to that yeah I think that the interesting part about that right is is exactly what you said as far as the um as far as the fact that it&#39;s going to vary from investor to investor and the motivation that those people have relatively speaking also right it&#39;s going to it&#39;s going to also you need to take and factor in whether or not the thesis that you used when you originally put the trade on still exists right that&#39;s part of I think the decision-making process that many people use is if you think that the stock is you know theoretically supposed to stay between 85 and 90 when you&#39;re selling this iron Condor and it&#39;s still there like you know and the and the premium that existed in this trade is 50% less than it was at the same time you need to really consider whether or not the trade that you have on is the same trade that you had on that you wanted to put on in the first place because I can tell you this from experience selling an iron Condor for $35 Cent which is what we talked about in this case and selling an iron Condor for you know a dollar are to completely different trades right like right we we at the beginning of this one of the things that I built into those slides is the amount that you sell the spread for is directly related to what your profit potential is and so if your profit potential has gone down by 50% you need to think about the whether or not you&#39;re twice as sure as you were to begin with as to whether or not the trade is going to be profitable right I think that the real the real thing you need to think about is selling an iron Condor for three bucks and selling an iron condor for a buck are two completely different trades so think about that as far as you know your risk tolerance is concerned right this is the beauty of spreads like you know up front what your maximum reward is and your maximum risk is within the spread itself so you know knowing that um you can decide you know based on your tolerance and your risk forecast you know your risk tolerance and your forecast like what strikes you want to Target um another question that somebody mentioned um and gets to the same subject but um it&#39;s regarding uh how would you use Delta to uh maybe come up with strike selection um for an iron Condor yeah that&#39;s interesting um lots of people so there&#39;s a couple of different ways that people think about Delta first and foremost one way I mean the technical definition of delta for those people who are uninitiated to the concept is Delta is the amount that an option should theoretically move in price terms based on a $1 move in the underly so you can think about it in that way in a very technical way but a one way that people take that technical definition and kind of overlay it on the marketplace is people will think about Delta of an option as the marketplace&#39;s best guess or forecast as to the percentage chance that that option is going to finish in the money and so in that case what you&#39;re really dealing with is someone who views it in that way is going to say to themselves this 50 Delta call has a 50% chance of finishing in the money as the market is the market is telling me that that is its forecast for this call if you think about it in that term and you kind of like take the next step in that process what you&#39;re you know one way that you might think about it is like what Delta do I want what percentage chance theoretically speaking do I want for this option to be in the money between now and the time that it expires right I mean like the the same can hold true like I said there&#39;s a difference between selling a a a condor for three bucks as opposed to a buck there&#39;s a big difference between selling a 10 Delta call and a 60 Delta call right there&#39;s going to be a a difference in premium there&#39;s going to be a difference in the Greeks that it throws off that it creates in your position but it&#39;s also going to be a difference in how sensitive your position is to movement of the underlying and so in that case you know if you&#39;re someone who might who who doesn&#39;t really want to look at things like that you might want to build that into your expectation as to the the the actual strikes that you use because selling lower Delta theoretical spreads in this case would you know as far as your model is concerned if you&#39;re a person who thinks about it in those terms is going to put you into a situation where theoretically you might not have to worry about it as much as far as the movement of the underlying is concerned and thus you might you know it might more closely match your investment style or your investment thesis but the real answer to that question is it has to match your risk tolerance and it has to align with how you want to trade and how you want to actually monitor these positions the one thing that I think is really important that I tried to get across as much as I could is that when you start talking about multi-leg strategies when you&#39;re dealing with short options and long options they start to get a little bit more complicated as far as managing the actual strike risk that you have on right and again the only way to fully remove assignment risk is to not be short those strikes because that&#39;s where you incur those liabilities so make sure that if that&#39;s something that you want to take off the table that you need to be monitoring that and if you&#39;re selling strikes that are closer to at the money you&#39;re probably going to have to monitor it a little bit more because it&#39;s gonna move around a little bit more as far as your strikes are concerned so that&#39;s how I I would agree yeah um so I think we have time for one last question so somebody was asking can I close the legs independently and I guess the quick answer is yes but keep in mind that when you close say one leg of a four-legged spread okay now you&#39;ve completely changed the risk reward profile of that position right so if you have an iron Condor on yes if you just buy the short legs now you&#39;ve taken off the assignment risk but if you close one of the long legs you&#39;re still left without that assignment risk so I I guess it really depends you know really what what strikes you you know decide to close down but yes can close uh the legs independently or one side or you know however you want I don&#39;t know if you want to add anything to that um but uh yeah I think that&#39;s that no Ken that&#39;s really well said and I think uh a risk that people need to keep on their their headline risk numbers as far as when you start to kind of monkey with the position in that way and you start to adjust it by maybe buying back those options or selling out the long options that you have for instance you&#39;re definitely going to change this you know this p&amp;l graph at expiration that I&#39;ve got up right here doesn&#39;t look the same if you&#39;re not short the 85s and long the 80s anymore right it looks completely different so make sure you pay attention to that one other thing that people can do and that people a lot of people really use this for is that you can leg into those spreads as well as well as legging out of them right legging into a spread means you essentially utilize the underlying movement in the stock when it presents certain circumstances where you think it might be a good time to sell the put spread because it you know it might be worth more than it traditionally would be worth at that point in time and then the stock may go up and the call spread may go bid slightly and you you know you think it might be a good time to sell the call spread sometimes people leg into these in that way and generally speaking if people who leg into them sometimes also leg out of them in that way right they T they they choose different times to trade the call spread or the put spread but I think it&#39;s also important that you realize that the marketplace in the United States as far as options are concerned is extremely robust and these iron condors and Condors in general and butterflies are very often priced as one price and will show up in your you know execution software as like $3 at 310 and um if you want to it&#39;s always it&#39;s not always but oftentimes it&#39;s available to just execute the entire trade as one trade and that can be very advantageous if that&#39;s the way you want to trade it as well so you know most of the time when we talk about options we talk about them as infinite infinitely customizable and that is true the other part about options that is infinitely customizable is how you can execute them right like how you can trade into and out of them because you can trade into pieces of this just like you can trade out of pieces of it and you can also trade it as one big price so it&#39;s you know it&#39;s kind of infinitely customizable in that way as well well said well I will hand it back to you so you can wrap it up but uh thanks for a great webinar and we look forward to hearing you again next week absolutely I really appreciate everybody coming today I hope that we got to all of the questions and gave you some really good information next week on the 19th 7 days from now at this very exact time we&#39;re going to be continuing the conversation about iron condors and butterflies we&#39;ll dive a little bit more deeply into how these spreads work and their Dynamics and as always if you are in a situation where you have questions about options you can always feel free to email us at optionsthe occ.com that email comes into the investor education desk where Ken and roma and Mark and I sit and we spend all day every day answering questions and we love to do it so make sure to check back with us next week at this same time and we&#39;ll see you soon thanks a lot for joining us

Transcript for:Iron Condors and Iron Butterflies - Part 1

Transcript for:
Iron Condors and Iron Butterflies - Part 1