Broken Wing Butterfly Option Strategy
What are the characteristics of this option strategy?
The Broken Wing Butterfly (BWB) option strategy is a great way to take advantage of the lower cost of implementing the strategy. It is a combination of a bullish (Long Call) and a bearish (Call Reversal) option spread. It has limited risk, limited reward, and high probability of success. It is a neutral/slightly directional strategy, meaning it is more profitable when the underlying stock/ETF moves in a certain direction. It is generally traded as a credit spread, where traders collect a net credit which is their maximum potential profit. This is a great strategy for traders looking to capitalize on small movement in the underlying asset.
Is this a bullish, bearish or neutral strategy?
The Broken Wing Butterfly is a neutral strategy however, it is more directional than a traditional butterfly. It is considered a limited risk strategy, meaning the trader’s potential loss is limited to the amount of capital risked. It is also considered a limited reward strategy since traders can only make a certain amount of money on the trade.
Is this a beginner or an advanced option strategy?
The Broken Wing Butterfly is an advanced option strategy. It requires the trader to have a deep understanding of the markets and options trading in order to be successful. Options involve more risks than stocks, and the Broken Wing Butterfly involves a more complicated setup and strategy than other option strategies. Knowledge of the Greek’s also is helpful when trying to strategize.
In what situation will I use this strategy?
The Broken Wing Butterfly is best used when the underlying stock is expected to remain relatively stable and appreciate slowly over a specific period of time. This strategy involves some setup costs and only works when the market is relatively flat. It is also a great strategy when the implied volatility is high, as it can produce good profits even with a small move in the underlying stock.
Where does this strategy typically fall in the range of risk-reward and probability of profit?
The Broken Wing Butterfly typically falls in the range of low risk and reward but with a high probability of success. The maximum reward is calculated as the net credit received for the trade. The maximum risk is the cost of implementing the strategy. The probability of profit is typically high since the trades are placed during relatively calm markets.
How is this strategy affected by the greeks?
The Broken Wing Butterfly strategy is affected by the greeks, particularly delta and theta. The delta of the strategy shows how much the position will gain or lose on any $1 move in the underlying security. Theta, or time decay, affects the strategy since all option contracts decay over time. It is important to be aware of how the greeks can affect the strategy so traders can adjust accordingly.
In what volatility regime (i.e VIX level) would this strategy be optimal?
The Broken Wing Butterfly strategy works best in a high implied volatility environment. The higher the volatility, the higher the premiums that are available in the options. This allows a trader to generate more net credit for the strategy and make more money.
How do I adjust this strategy when the trade goes against me? And how easy or difficult is this strategy to adjust?
Adjusting the Broken Wing Butterfly strategy is relatively easy. Once the trade is placed, traders can adjust the position depending on what is going on in the market. It is important to position size correctly and to be aware of the trade’s risk vs. reward potential. Adjustments can be made by adjusting the strike prices of the options, thereby adjusting the delta and theta of the position.
Where does this strategy typically fall in the range of commissions and fees?
The Broken Wing Butterfly strategy is typically a low cost strategy. Commissions and fees will depend on the broker and the quantity of options being traded. It is important to factor in the cost of commissions and fees when calculating the risk/reward of the trade.
Is this a good option income strategy?
The Broken Wing Butterfly option strategy can be a great option income strategy as it is designed to generate a net credit for the trader. The strategy can be used to generate a consistent income stream given the high probability of success.
How do I know when to exit this strategy?
Traders should exit the Broken Wing Butterfly strategy when the underlying stock/ETF has moved beyond the breakeven points or if the trader is down to their maximum stop loss. It is important to stay aware of the underlying asset’s movements and to adjust the strategy as necessary.
How will market makers respond to this trade being opened?
Market makers will usually quote tight bid/ask spreads for Broken Wing Butterflies due to its popularity and the large amount of liquidity in the market. This means that the trader can generate a net credit for the trade relatively quickly.
What is an example (with calculations) of this strategy?
Let’s take a look at a hypothetical example of a Broken Wing Butterfly with a purchase of a 50 call, sell of two 55 calls, and purchase of one 60 call. The market is quoting a bid/ask of $1.00/$1.25. The maximum risk on the trade is the cost of implementing the trade, which is $500. The maximum reward is the net credit of $375 (i.e. $500 – 125). The break even points are at 50 and 61, which means the stock must remain above 50 or below 61 in order to make a profit.
How MarketXLS help?
MarketXLS provides tools and templates that make it easier to evaluate and implement the Broken Wing Butterfly strategy. With MarketXLS, traders can save time, optimize their risk-reward ratio and increase their chances of success. Some of the features include butterfly spread analysis, for both long and short butterflies as well as option pricing and greeks calculations. All of these features are designed to equip traders to make more informed decisions when trading the Broken Wing Butterfly strategy.
Here are some templates that you can use to create your own models
Search for all Templates here: https://marketxls.com/templates/