what is the problem of butterfly strategy ?

Discussion in 'Options' started by hermit_trader, Dec 10, 2005.

  1. It seems to be quite good and has limited risk. As a newbie I guess there must be some problems with it, as I don't know much people using it.
  2. It's a fantastic position. Excellent risk/reward with a preferred gamma position which is limited in magnitude.

    You're trading four legs, so the bid/offer paid can be a significant % of the position-debit on the long fly. That's much less of an issue with some of the direct-access systems out there like IB.

    You're short gamma in the delta-neutral butterfly. If you're predicting high-volatility there are better strategies to employ.
  3. If I am predicting low volatility, is it OK?
  4. Yes, absolutely.
  5. Is it safer (but also less rewarding) than short strangle/straddle? I heard some guys were wiped out as the market suddenly moved violently. Is butterfly more suitable for newbie? Thanks!
  6. Staying with limited risk strategies, like the butterfly, vertical spread, etc., helped me out while learning options. It's easy to get the deer in the headlights look when all your greeks start moving at once. With a limited risk position, where I was "comfortable" (but not happy) with the potential loss, the process was less stressful.
  7. MTE


    For what it's worth, I agree, a long butterfly is a great position, I just love trading them. In fact, it offers one of the best risk/reward ratios, especially, if you play OTM flies.

    The problem with them is that you can't reach the max potential profit until actual expiry. For example, I currently have a 5-point Dec long call butterfly. On Friday (7 days to expiry) the stock was right at the short strike, yet the butterfly was worth only 3.00. So it still has about 2 points potential, but Gamma is getting pretty high.

  8. MTE is right on the money with fly.The fly is great for directional plays in terms of RR but the timing sucks . If you are wrong about mkt direction, the fly will lose $ right away if you are right and it moves to sweet spot, you can't "cash in" until l 2-4 Days till exp. However, you will find that if u buy an extra wing, you have the early participation as it moves to sweet spot. Kinda like Cottle's slingshot position.
  9. GATrader,

    What do you mean by "if u buy an extra wing, you have the early participation as it moves to sweet spot"?


  10. I agree with Riskarb. I would add however that overhead (commissions) are significant. If you cant control this cost it is hard to make money on it. Also his comment about vol is important. If you forecast higher vol this isnt the way to go.

    Personnally I see higher vol in the near future, but thats just my opinion. I wouldn't be using flys right now. If I could afford the rent I would be starting to buy premium in here anticipating a change about mid January/early February or so.

    Good luck
    #10     Dec 10, 2005