Exploring Iron Condor Strategies for Potential Profits

Investors have different options strategy choices when managing their investments. When they're concerned about low volatility and have a neutral market outlook, they may consider an iron condor option strategy (specificially a short iron condor).

This advanced strategy is designed to help traders hoping to make a profit through the stock by staying range bound between the sold call and put; all options expire worthless.

Read on to learn more about this strategy.

What is an iron condor?

A typical iron condor (also known as a short iron condor) is an options trading strategy that involves the simultaneous sale of an out-of-the-money (OTM) call spread and an OTM put spread on the same underlying asset, with the same expiration date.

This strategy is typically used when an investor expects the price of the underlying asset to remain within a specific range over the life of the options.

Why consider using an iron condor: How it works

Here's how a condor option strategy works:

• Selling a call spread: The trader sells one OTM call option and simultaneously buys another OTM call option with a higher strike price, creating a bear call spread, where the maximum profit is achieved if the price of the underlying asset is below the lower strike price at expiration.

• Selling a put spread: Simultaneously, the trader sells one OTM put option and buys another OTM put option with a lower strike price, creating a bull put spread, where the maximum profit is achieved if the price of the underlying asset is above the higher strike price at expiration.

Iron condor example

Let's look at an iron condor example using a stock currently trading at $100 per share.

Setup the trade

• Expiration date: 1 month from now

• Strike prices:

• Call spread: Sell 1 $110 call option, Buy 1 $115 call option

• Put spread: Sell 1 $90 put option, Buy 1 $85 put option

Option premiums

• Sell $110 call $2 premium and buy $115 Call: $1 premium

• Sell $90 put $1.50 premium and buy $85 Put: $0.75 premium

Strategy execution

1. Sell 1 XYZ $110 call option for $2, collecting $200 premium (credit) and buy 1 $115 call option for $1, paying $100 premium (debit). Net premium received from the call spread: $200 - $100 = $100 credit

2. Sell 1 $90 put option for $1.50, collecting $150 premium (credit) and buy 1 $85 put option for $0.75, paying $75 premium (debit) Net premium received from the put spread: $150 - $75 = $75 credit

• Total credit received from both the call and put spreads: $100 (call spread) + $75 (put spread) = $175

• Theoretical maximum profit and theoretical maximum loss:

• Theoretical maximum profit = Net premium received ($175)

• Theoretical maximum loss = Width of one spread - net premium received = ($115 - $110) x 100 (option multiplier) - $175 = $325

Breakeven points

Upper breakeven = Short call strike + Net premium received = $110 + $1.75 = $111.75

Lower breakeven = Short put strike - Net premium received = $90 - $1.75 = $88.25

Potential expiration scenario

If the stock goes below $88.25 or above $111.75, the iron condor will start incurring losses, with the theoretical maximum loss of $115-$100 = $5 x 100 shares = $500 minus the credit received of $175, which means $500 - $175 = $325 max loss with one spread in the money (ITM).

Iron condor profit and loss

The theoretical profit and loss (P&L) potential of an iron condor options trading strategy depends on various factors such as the strike prices, the premium received, and the price movement of the underlying asset at expiration.

Theoretical maximum profit

An iron condor has limited profit potential equal to the net premium received (or the larger difference in strike prices if an unbalanced iron condor), and limited loss potential equal to the difference in strike prices of one spread minus the net premium received. The strategy realizes its theoretical maximum profit if the price of the underlying asset is within the range defined by the inside strike prices or the sold option strike prices. After that, the potential profit goes down towards zero on the way to the breakeven points. The trader incurs a loss if the price moves significantly beyond these points at expiration.

Theoretical maximum loss

An iron condor's theoretical maximum loss potential occurs if the price of the underlying asset is beyond the strike price of either the long call or put at expiration. The theoretical maximum loss is limited to the difference in strike prices of one spread minus the net premium received when initiating the iron condor.

Breakeven points

The breakeven points of an iron condor are the price levels at which the P&L of the strategy is zero at expiration. For the upper breakeven point, it's calculated by adding the net premium received to the strike price of the short call option and the lower breakeven point is calculated by subtracting the net premium received from the strike price of the short put option.

What to consider when managing an iron condor

When managing an iron condor, the strategy has been designed to mitigate risk and pre-determine potential profitability. Here's a few considerations.

Monitor the position regularly: Monitor whether it remains within the preferred price range of the underlying asset. If the asset's price begins to move towards the breakeven points or beyond, it might be prudent to take proactive steps to adjust or close the position.

Close out early: If the price of the underlying asset moves significantly toward one of the breakeven points or beyond, consider closing out the iron condor position early to limit potential losses.

Consider adjustment and hedging strategies:

Adjustment strategies: If the price of the underlying asset approaches one of the breakeven points but has not yet moved beyond it, you may want to consider making adjustments to the iron condor to widen the profit zone or reduce risk. This can include rolling one side of the spread up or down to create a new spread with wider strike prices, or rolling the entire iron condor position to a different expiration date.

Hedging strategies: If the price of the underlying asset makes a sharp and unexpected move, consider buying options or futures contracts that move inversely to the underlying asset or other positions that could offset potential losses in the iron condor.

How to set up a iron condor strategy using moomoo

Moomoo provides a user-friendly platform for trading options. Here's a step-by-step guide to get you started:

Step 1: Navigate to your Watchlist, then select a stock's "Detailed Quotes" page.

Images provided are not current and any securities are shown for illustrative purposes only and is not a recommendation.

Step 2: Navigate to Options> Chain located at the top of the page.

Step 3: By default, all options with a specific expiration date are shown. For selective viewing of calls or puts, simply tap "Call/Put."

Images provided are not current and any securities are shown for illustrative purposes only and is not a recommendation.

Step 4: Adjust the expiration date by choosing your preferred date from the menu.

Images provided are not current and any securities are shown for illustrative purposes only and is not a recommendation.

Step 5: Easily distinguish between options: white denotes out-of-the-money, and blue indicates in-the-money. Swipe horizontally to access additional option details.

Images provided are not current and any securities are shown for illustrative purposes only and is not a recommendation.

Step 6: Explore various trading strategies at the screen's bottom, offering flexibility for your investment approach.

Images provided are not current and any securities are shown for illustrative purposes only and is not a recommendation.

When to consider closing an iron condor

Deciding when to close an iron condor position depends on various factors, such as the iron condor reaching your predetermined profit target as well as reviewing your trading objectives, risk tolerance, market conditions, and the current profitability or risk exposure of the position. Here are some scenarios and considerations for when to close an iron condor.

Early profit opportunity: Price of the underlying asset stays the same or moves within the short strike prices. You could achieve a significant portion of your maximum potential profit be based on several variables. This can include the ratio of paper profit to time elapsed/time left until expiration.

For example, if a trader set up a position that expires in eight weeks and they have a paper gain of approximately 60% after two weeks, they might consider taking a profit. Or, if there's a paper gain of 20% of premium after two days, they might do the same, but it's their decision depending on their outlook and goals.

Near breakeven points: Price of the underlying asset is approaching one of the breakeven points of the iron condor but has not yet moved beyond it. If you close the position, it may limit potential losses.

Approaching expiration: Assess the current market conditions and the position of the underlying asset relative to the strike prices of the options. If the iron condor is profitable and there is limited time remaining until expiration, consider closing the position to avoid the uncertainty and potential risks associated with holding the position through expiration.

Potential pros and cons of an Iron Condor

Similiar to other options trading strategies, the iron condor comes with its own set of potential pros and cons.

Iron condor vs. iron butterfly

Both the iron condor and iron butterfly are options trading strategies that aim to potentially profit from low volatility in the market but they have structural differences and risk-reward profiles.

Iron condor: Opened by selling an out-of-the-money (OTM) put spread and an OTM call spread with the same expiration date. This creates a wider range than the iron butterfly in which the underlying asset's price can move without causing significant losses. Specifically:

• Sell 1 OTM put option (lower strike price)

• Buy 1 further OTM put option (even lower strike price)

• Sell 1 OTM call option (higher strike price)

• Buy 1 further OTM call option (even higher strike price)

Iron butterfly: Opened by selling an at-the-money (ATM) put and an ATM call, while simultaneously buying an OTM put and an OTM call. This results in a tighter, usually steeper, profit range compared to the iron condor. Specifically:

• Sell 1 ATM put option

• Sell 1 ATM call option

• Buy 1 OTM put option (lower strike price)

• Buy 1 OTM call option (higher strike price)

Both strategies are designed to potentially enter during a high implied volatility (IV) period and profit from falling volatility in the market.

The iron condor provides a broader profit range and is generally considered more conservative. The iron butterfly offers higher potential returns but requires the investor to be more precise about the underlying asset's price movement, making it riskier to lose, when the underlying price moves too much on one direction.

FAQs about the iron condor options strategy

Is an iron condor bullish or bearish?

An iron condor is a neutral options trading strategy; it is neither explicitly bullish nor bearish. The strategy can potentially profit from the underlying asset remaining within a specific price range, regardless of whether the price goes up or down within that range.

Take a look.

• Call spread component (Bearish bias): As a trader simultaneously sells a call spread (sell an OTM call option and buy another OTM call option with a higher strike price,) they can potentially profit if the price of the underlying asset stays below the higher strike price of the sold call option.

• Put spread component (Bullish bias): At the same time, the trader sells a put spread (sell an OTM put option and buy another OTM put option with a lower strike price.), they can potentially profit if the price of the underlying asset stays above the lower strike price of the sold put option.

Should I let an iron condor expire?

Whether or not you let an iron condor either expire or to close it before expiration depends on various factors. Take a quick review of the following to help make your decision:

• Market conditions: Evaluate the current market environment and assess whether it aligns with your initial expectations when you entered the trade.

• Profit target: Review your profit target. If the market moved favorably, and you have already achieved a significant portion of your theoretical maximum potential profit, closing the position before expiration to lock in those gains may be a good idea.

• Risk management: Consider your risk tolerance and the potential downside risks of holding the iron condor until expiration.

• Liquidity and execution: Assess the liquidity of the options involved in the iron condor trade and the ease of execution.

• Time decay (theta): Options experience time decay as expiration approaches, which can erode the value of the options in your iron condor.

What happens if iron condor expires in-the-money/at-the-money/out-of-the-money?

An iron condor includes four different contracts and it involves simultaneously selling an out-of-the-money put and call, while also purchasing a further out-of-the-money put and call with the same expiration date. Here's a look at expiration.

In-the-money: At expiration, the price of the underlying asset is either below the strike price of the short put or above the strike price of the short call. Here's a few scenarios that may play out:

• Assignment: If any of the options in the iron condor are in the money at expiration, there's a chance of assignment. If assigned, the trader who sold the option (the writer) will need to fulfill their obligation.

• Potential losses: When either the short call or short put options expire in the money, it generally leads to a loss for the iron condor trader. The loss is determined by factors such as the width of the condor, the premiums received when initiating the position, and any transaction costs.

• Theoretical maximum loss: The loss is equal to the width of one spread minus the net credit received when establishing the position, multiplied by the number of contracts.

• Risk Management: Monitor the iron condor positions and potentially take action to manage risk as the trade progresses.

• Margin requirements: If trading iron condors in a margin account, the trader needs to maintain the required margin. In the event of losses, the trader may need to deposit additional funds to meet margin requirements or risk having positions forcibly closed by the broker.

At-the-money: The underlying asset’s price is equal to the strike prices of the short call or short put. The options that were sold (short positions) could be exercised but the trader may be assigned on them.

Out-of-the-money: At expiration, all option contracts in the trade expire worthless and you could keep the premiums less commissions.