Unbalanced Butterfly: Tilting the Odds

How to tweak a butterfly when you have strong directional bias, time to expiration is short and you want to squeeze as much as you can out of your position.

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8 min read
Photo by Fredrik Broden

You're on your way to the airport to catch a flight when the inevitable happens. You’re stuck in traffic. Your anxiety level elevates and your mind starts racing. Do you take an alternate route, stick with the slow traffic, or let it go and be content with missing your flight? As an options trader, you know the value of time. When your contracts’ expiration date gets closer and your positions aren’t doing much, do you let them expire worthless, or do you modify your positions? Unlike a traffic snarl, with the market you have more choices. One strategy to consider is the unbalanced butterfly. Perhaps you’re already familiar with the butterfly and iron condor. And you may have heard they can in fact be “unbalanced.” But what makes them that way? How does it change the strategy? And how do you manage them?

First, The Fly: Remembered

To refresh, a butterfly combines a long vertical spread and a short vertical spread assuming the following conditions:

  • The options are the same type (all calls or all puts). 
  • Each of the vertical spreads must have the same distance between strikes. 
  • The short option in the long spread and the short option in the short spread must share the same strike. 
  • All options must have the same expiration date.

Put this all together, and your profit curve will look like Figure 1.

Because the two spreads in the butterfly share the same short strike, it follows that the spread you buy is always more expensive than the spread you sell. Therefore, the trade is always put up for a net debit.

Yet, there can be two problems inherent to the butterfly. First, because it is a threelegged trade, commissions can be much greater than with other strategies, making it potentially expensive. Second, it’s often difficult to pinpoint a max profit because it can only be reached at one price, which is highly improbable. This is where an unbalanced butterfly may help.

Unbalanced: Butterflies For Credits

Rather than place a trade for a net debit, the unbalanced butterfly allows you to modify the original trade so you can place it for a net credit. Then, if the trade doesn’t work out, there’s a chance you’ll still get to keep that credit for your troubles. Unbalanced butterflies include an extra short call or put vertical, even though you may not see it. They’re sold at the strike furthest out-of-the-money (OTM) and the goal is to sell enough premium in the second vertical to place the trade for a credit. Now you’ve increased the potential profit, but you’ve also increased the risk. And, you’ve added a vertical layer you need to monitor and manage. Your new profit curve would look like the trade in Figure 2.

FIGURE 1: CLASSIC LONG BUTTERFLY. Nothing fancy here but a combination of a long vertical spread and 
short vertical spread of the same type. Great for sideways markets, but tough for traders to pinpoint a profit zone. 
For illustrative purposes only.