An iron butterfly that is biased upward or downward by selling only one of the out-of-the-money options of the strangle on the expectation of a potentially larger move to the upside or downside. For example, if an investor expects a large move in the stock of a given firm and therefore buys a 3-month $45 straddle for $5 while that stock is at $45. The investor anticipates a potential move in stock price to be higher rather than lower. Assuming an out-of-the-money $40 put with a $1 premium which expires on the same expiration date of the long straddle. The investor can sell the put such that the overall cost of trade is reduced by the premium amount, reducing the risk associated with the trade. If the stock price moves upward, the potential gains would be unlimited. This iron butterfly has an upside bias, thanks to the unlimited profit potential.
December 21, 2024
