If you expect the stock price to fluctuate slightly, but are unsure about the direction of the stock price fluctuation, and want to achieve profits at a low cost and with controlled risk under such circumstances, you can use short call butterfly.

How to build

The  short call butterfly. consists of three options transactions

● Sell 1 copy of Call1

● Buy 2 copies of Call2

● Sell 1 copy of Call3

The underlying assets and expiration dates of Call1, Call2, and Call3 are all the same. The differences are:

Exercise price: call1

Number of open positions: call1: call2: call3 = 1:2:1

Strategy brief

Selling a short call butterfly . Generally, opening a position is to sell 1 real-valued option call1 with a lower strike price, buy 2 flat option call2 with an intermediate strike price, and sell an imaginary option call3 with a higher share price. The three execution price differences are equally spaced, and the expiration date is the same.

In this strategy, selling call1 and call3 are the main trading positions to meet investors' expectations that “the stock price is expected to fluctuate slightly in the future”.

Buying 2 copies of call2 is mainly used to control the risk of call1 and call3.

Generally, when selling a  short call butterfly strategy, the premium income obtained by selling call1 and call3 will be higher than the option premium expenses of buying 2 copies of call2. Therefore, at the beginning of strategy construction, the strategy shows a net inflow on the book, and the cost of opening a position using this strategy is relatively low.

Since the short call butterfly strategy is a limited combination of profit and loss, it is possible to calculate the maximum profit and loss of this strategy at the beginning of strategy construction.

When the stock price is higher than the highest exercise price or lower than the minimum exercise price, the strategy generates the greatest return, which is the combined net option premium income.

When the stock price is equal to the intermediary exercise price, the strategy makes the biggest loss, minus the lower exercise price for the intermediate exercise price and then the net option premium income.

It is important to note that this strategy requires trading at least 8 options to fully open and close positions. The transaction cost is relatively high, and the cost must be calculated well when using it.

In addition, it is also important to note that the maximum profit of the strategy is the net option premium, so the price effectiveness of the option during the opening period is very important to avoid a mismatch between the price of the option during the opening period and the value of the option that is unfavorable to itself.

Finally, four-legged options also mean that after opening a position, investors can flexibly adjust and change strategies according to market changes, such as changing to three-legged, two-legged, or even single-legged strategies.

Risks and benefits

● Break-even point

Low break-even point: stock price = low exercise price+net option premium

High break-even point: stock price = high exercise price - net option premium

● Maximum profit

Net option premium income

● Maximum loss

Maximum loss = intermediate exercise price - low exercise price - net option premium income

Examples of calculations

Assuming that in the US stock market, TUTU's current stock price is 52 US dollars. You think TUTU's stock price will fluctuate slightly in the next month, but you don't know the direction of fluctuation. If you want to achieve low cost and risk-controlled profits under this kind of expectation, you can use the  short call butterfly strategy.

Sell 1 call at a price of 6 US dollars with an exercise price of 48 US dollars;

Buy 2 calls with an exercise price of $52 at a price of $3;

Sell 1 call at a price of 2 US dollars with an exercise price of 56 US dollars;

At maturity, your earnings will be as follows:

Explanation:

1. The article uses stocks as option targets to explain strategies. The actual investment bid can also be stock indices, futures contracts, bonds, currencies, etc.;

2. Unless otherwise specified, all options in this article refer to on-market options;

3. The TUTU company in the article is a virtual company;

4. The relevant calculations in this article do not take into account handling fees. In actual options investment, investors need to consider transaction costs.