Investment Type: Credit
Strike Prices: ITM for 1st sold leg, ATM (near the money) for bought leg, OTM for 2nd sold leg.
Expiration Month: Same expiration months for all legs and should be current month
Composition: Sell higher strike Put + Buy 2 middle strike Put + Sell lower strike Put
| Short Put Butterfly Profile Chart | ||
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Short Put Butterfly is a combination of Bull Call Spread and Bear Call Spread. Its risk profile is the exact opposite of Long Put Butterfly and least popular. Also, the risk reward ratio is not attractive even though it’s a low cost strategy.
Traders are more inclined to use Straddle or Strangle because even though those strategies are slightly more expensive, the rewards are not seriously capped like in Short Put Butterfly.
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Entry:
Investment @ Entry = (Premium of Lower Strike Leg x No of Contracts x 100 Shares) + (Premium of Middle Strike Leg x No of Contracts x 100 Shares) + (Premium of Higher Strike Leg x No of Contracts x 100 Shares) = ($8,500) + $6,000 + ($1,000) = Credit ($3,500) Breakeven Point Down = lower strike + Net Credit = $30.00 + $0.70 = $30.70
Exit:
Best Case Scenario:
OR
Profit @ Exit = (Premium of Lower Strike Leg x No of Contracts x 100 Shares) + (Premium of Middle Strike Leg x No of Contracts x 100 Shares) + (Premium of Higher Strike Leg x No of Contracts x 100 Shares) – Investment @ Entry = ($25,000) + $25,000 + $0 + $3,500 = $3,500 OR Profit @ Exit = (Premium of Lower Strike Leg x No of Contracts x 100 Shares) + (Premium of Middle Strike Leg x No of Contracts x 100 Shares) + (Premium of Higher Strike Leg x No of Contracts x 100 Shares) – Investment @ Entry = $0 + $0 + $0 + $3,500 = $3,500 Return of Investment = Profit @ Exit / Investment @ Entry = 100%
Worst Case Scenario : (difference between strike prices – Net Credit) x no of contracts.
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