Iron condors

An Iron Condor is a neutral, non-directional options strategy designed to generate income in low-volatility markets. It profits when the price of the underlying asset remains within a specific range, allowing the options to expire worthless or for the premiums to be captured.

How It Works

The Iron Condor involves four options contracts with the same expiration but different strike prices: two calls and two puts.

Setup:

1. Sell an out-of-the-money (OTM) call: Generates premium income.
2. Buy a further OTM call: Limits the risk of the sold call.
3. Sell an OTM put: Generates additional premium income.
4. Buy a further OTM put: Limits the risk of the sold put.

Profit and Loss

1. Maximum Profit:

   • Achieved when the underlying price stays between the strike prices of the sold options (the "inner strikes").
   • Profit = Net premium received.

2. Maximum Loss:

   • Occurs if the underlying price moves beyond the outer strikes.
   • Loss = Difference between the strikes - Net premium received.

3. Break-Even Points:

   • Upper Break-Even: Strike of the short call + net premium received.
   • Lower Break-Even: Strike of the short put - net premium received.

Example of an Iron Condor

• Underlying Price: $100.
• Call Options:
  • Sell $110 call for$2.
  • Buy $115 call for$1.
• Put Options:
  • Sell $90 put for$2.
  • Buy $85 put for$1.
• Net Premium Received: $2 ($4 - $2).

Scenarios:

1. Underlying Price = $105 (within range):

   • All options expire worthless.
   • Profit = Net premium = $200 (per contract,$2 × 100 shares).

2. Underlying Price = $120 (beyond upper range):

   • Loss from $110-$115 call spread = $5 -$2 (premium) = $3 loss/share.
   • Net Loss = $300 (per contract).

3. Underlying Price = $80 (below lower range):

   • Loss from $90-$85 put spread = $5 -$2 (premium) = $3 loss/share.
   • Net Loss = $300 (per contract).

When to Use

• Market View: Neutral, expecting low volatility.
• Time to Expiration: 30–45 days is typical to maximize time decay (Theta).
• Volatility Environment: Ideal when implied volatility is high but expected to decline, as options prices will decrease.

Advantages

1. High Probability of Success: Generates profits in a wide range of scenarios.
2. Defined Risk: Losses are capped by the bought options.
3. Income Generation: Effective for collecting premiums in flat or range-bound markets.

Disadvantages

1. Limited Profit: Capped at the net premium received.
2. Sensitive to Volatility: Sharp increases in implied volatility can cause losses.
3. Requires Monitoring: Must be actively managed to prevent large losses if the price moves significantly.

Adjustments

1. Roll the Spreads: Move the sold options further out if the price approaches the upper or lower strikes.
2. Close Early: Exit the position if 50–75% of the maximum profit is achieved before expiration.
3. Convert to a Butterfly: Reduce risk by adjusting strikes closer to the current price.