Iron Condor

An iron condor is structured with one short call and long another call with a higher strike; also short one put and long another put with a lower strike.  Typically, the call strikes are above and the put strikes below the current level of underlying stock, and the distance between the call strikes equals the distance between the put strikes.  All the options must be of the same expiration.  An alternative way to think about this strategy is short a strangle and long an even wider strangle.  It could also be considered as a bear call spread and a bull put spread.

Market Outlook

Market participants looking for the underlying to stay range bound over the life of the options.

When to Use

An investor often employs a long ratio put spread strategy to profit from the sharp fall in the underlying’s price for little initial cost or outlay.

Profit & Loss Chart

Benefit

Iron Condors are sound choices when the underlying moves in a sideways, or experiences range bound activity. The potential profit and loss are both very limited.  In essence, a condor at expiration has a minimum value of zero and a maximum value equal to the span of either wing.  An investor who sells a condor receives a premium somewhere between the minimum and maximum value, and profits if the condor’s value moves toward the minimum as expiration approaches.

Risk & Reward

Maximum Profit: Limited
Maximum Loss: Limited

The maximum gain would occur should the underlying stock be between the lower call strike and upper put strike at expiration.  In that case all the options would expire worthless, and the premium received to initiate the position could be pocketed.

The maximum loss would occur should the underlying stock be above the upper call strike or below the lower put strike at expiration.  In that case either both calls or both puts would be in-the-money.  The loss would be the difference between either the call strikes or the put strikes (whichever are in-the-money), less the premium received for initiating the position.

Break Even Point

This strategy breaks even if at expiration the underlying stock is either above the lower call strike or below the upper put strike by the amount of the premium received to initiate the position.

Volatility Changes

Increase In Volatility: Negative Effect
Decrease In Volatility: Positive Effect

An increase in implied volatility, all other things equal, would have a negative impact on this strategy. A decrease in implied volatility, all other things equal, would have a positive impact on the value of the position.

Time Decay (Theta)

Positive Effect

The passage of time, all other things equal, will have a positive effect on this strategy as the short iron condor position experiences positive theta, or positive time decay as expiration approaches.