Option Strategies

Long Iron Butterfly

The trade: Buy Straddle, sell Strangle with strike points outside the upper and lower strike range of the Straddle, e.g. Sell a put (A), buy a put and a call at higher strike (B), sell a call at equally higher strike (C).
Market expectation: Direction neutral/volatility bullish.
Holder expects a market move in either direction. The position will also benefit from an increase in volatility.

Profit & loss characteristics at expiry:

Profit: Limited; maximised where the underlying rises to strike C or falls to strike A.
Loss: Limited to the net debit in establishing the position, greatest if underlying is at B.
Break-even: Reached when underlying is above the lower strike price A by the same amount as the initial debit, or is below higher strike price C, by the same amount as the initial debit.

Market sensitivities at 30 days to expiry:

underlying

futures down

at-the-money

futures up

delta

--

0

++

gamma

+

++

+

theta

+/-

-

+/-

vega

+

++

+

Delta: Neutral (assumed at-the-money). Becomes highly positive (negative) for large decreases (increases) in the underlying.
Gamma: Highest at or about strike B, and will tend to decline as the market moves in either direction from this point.
Theta: Time decay will be negligible until the final month of the contract. Decay will act against the holder between underlying levels A and C, being greatest at B. If the underlying moves outside this area, decay will benefit the holder.
Vega: Value of position will increase as implied volatility increases.