I’ve been looking through my logs and stats and noticed that quite a few people have stumbled across this site in search of the iron condor. As a result, I’m going to dive into my favorite little option trade and talk about the iron condor!
Lets start by defining what on earth this crazy “iron condor” really is. Basically, it’s 4 options put together to create what some folks call a “wing spread”. The condor is composed of two “strangles” or two “vertical spreads” depending on how you want to look at it. I’m going to talk about the iron condor as though you are selling them, mainly because that is what I do!
Typically, you want to use an iron condor when you are directionally neutral for a given security or index. The goal is to sell the condor, take in a bit of money for the time remaining on the trade and then watch it decay.
Constructing an Iron Condor
As stated earlier, the iron condor is made up of 4 different options, each with a different strike price. In order to setup a condor, you will need 2 put options and 2 call options. The calls will be at the “top” of the condor and the puts will be at the “bottom” of the condor. The put side, or bottom of the condor will be created using a bull put spread and the call side will be created using a bear call spread.
Here is an example… Let pretend that you are neutral on the SPX for the next month and a half or so. Given that, it may be a good idea to put a condor on! So using the current scenario for the SPX lets find a trade…
Finding the Strikes
Given the current prices of the value of the SPX $1281.58 and its recent history, I’m pretty comfortable saying that the SPX won’t break the 1360 mark in the next 45 days. I’m also comfortable saying that the SPX won’t go below the 1180 mark in the next 45 days. Given those two numbers, lets see what’s out there.
- 1360/1375 Bear Call Spread
- Entry target of $0.40 Credit
- 1180/1164 Bull Put Spread
- Entry target of $0.40 Credit
- Margin: $1,500 Per Contract – as my buddy Mike Parnos at the CTPI says, if you have the right broker!
- Credit: $80 Per Contract
- Return: 5.33% over about 40 days
- Risk: According to my trusty tools from thinkorswim it’s about 92.62% likely to succeed!
Now, this isn’t a trade that I would normally put on – it’s just not a big enough return for me over that period of time. Very likely, I would take a look at closer strikes and see if I can find another trade. But you can see how a condor can come together!
Review
Let’s take a look once more… Iron condors are directionally neutral positions… In theory you could use the condor as a volatility play – hoping that a stock/index will move dramatically in either direction… I like to use them as a box of sorts, picking to strike prices I think are far enough away from the current price of a security to be safe and then sell the condor, take the cash, earn some interest and watch time decay!
So, thats an iron condor… Feel free to leave your comments and thoughts, I’d be happy to discuss this awesome little tool with you!
Categories: Options Trading
4 Responses to “the iron condor”
Hi,
I found your insights into Iron Condors very interesting. One question I have is in regard to the maximum risk of a short iron condor. I have read that the maximum risk is limited to either of the spread “strike intervals” involved. Is it possible, if someone didnt monitor their positions closely, to exceed the supposed max loss? For example, say I place a short iron condor on a volatile stock ($5 spread intervals) and the price moves in the following manner: UP past my short call, causing it to be exercised at a loss; and then immediately DOWN past my short put, leading to a total loss greater than the $5 spread interval on either side.
This may be a far fetched scenario, but I am not an experienced options trader, and I am very interested in the condors.
Thanks!
Hey there Bruce… Your scenario may be a bit far fetched, but your right… it is possible to have that scenario happen. If you were to sell two vertical spreads at near the money strike prices, one call spread and one put spread, creating and iron condor, you could be at risk. However, you can eliminate this risk by selling condors on european style options.
I’ll explain it a bit, however, you should also read up on it from the cboe. American style options can be exercised at any time during the option cycle, so the scenario you presented is possible, however unlikely. On the other hand, European style options can only be exercised on the settlement date, so the scenario presented is not possible.
Equity options (options on stocks) are generally American style, and many index options, like the SPX, are European style options. I think the settlement style is another great advantage to trading index products!
Hopefully that clears it up a bit, feel free to send over any other questions, happy trading!
-Ryan
Great presentation of the iron condor! I just recently began to explore spreads and would like to try an iron condor. I do not have the funds to survive an exercise/assignment situation so would probably need to trade European style calls and puts.
I am wondering if you could share some thoughts about which European style options would work well at this time. I just looked up the SPX and the Volume in most of the months is very low with very large spreads (near $7.00) between the bid and ask price. The MNX, which I think is a European style exercis looks much better with small spreads (as low as .60) but again with very low Volume and Open Interest. Any suggestions regarding better Eurpoean style options that would work well in iron condors would be greatly appreciated.
Thank you in advance
Dana
Dana,
Personally I trade the RUT a lot. It is European style and has pretty decent volume.
Here is a link that might help as well: http://cboe.com/Products/Cash-SettledIndexOptions.aspx
I’ve found that even on the XEO (The European style S&P100 Index) you can usually find enough open interest to get into a position without must of a problem. If your account size isn’t huge and your talking 20 contracts or less, the XEO shouldn’t cause any problems.
I’m not sure where you are getting your SPX data, but I don’t see spreads that big. Typically, I’m seeing about $0.50 or so between the bid and the ask, with pretty good volume.
Another to think about the the American style options is that you are typically not going to get exercised unless your position goes well into the money. Personally, with an Iron condor if I let it get into the money, I’ve done something wrong. If the market is moving against my position to the point when I’m going ‘in the money’, it is very likely time to get the heck out of there and live to trade another day.
-rb