2 Great Iron Condor Examples

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Iron condor: Tonight, I want to go over the two trades that we had actually on Friday, January 2nd to close out the first week of the trading year. And we had one opening and one closing order, both iron condor trades, so it’s going to be a cool video to show you both the closing trade and the opening trade for an iron condor.

We’re going to start with the closing trade, and we’re going to look at the Microsoft iron condor that we closed out. We originally had this unbalanced iron condor in Microsoft. And unbalanced, meaning that one side of our iron condor and this side, the put side was two strikes wide. You can see we had the 42/40 put spread, and on the topside of our trade, we had the 49/50 call spread. We had a little bit more risk to the downside.

We were mainly assuming that maybe if Microsoft rallied higher, we’d have probably a little bit less risk above the market. But our short strikes on the call side were 49 and 50, and you can see that unbalanced side which was 42/40 down below the market. Now, we closed out this trade for about a $.10 debit, and the reason that we closed it out is that Microsoft did two things that we wanted it to do ideally when we entered the trade.

One, the stock stayed relatively range bound, so it didn't move all too much, and two, implied volatility dropped. That's the main reason that we wanted to trade this strategy, is because implied volatility was hopefully going to go down because it was already at elevated levels. It did both of those things. There’s no point in holding this trade all the way through expiration for another $.10. We’ve made over 50% of our max potential gain and took a nice $64 profit on the trade.

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Now, here’s a chart of Microsoft and you can see when we entered the trade, this was back on the 16th of December. This is the day that we opened it when Microsoft gapped lower, and it was also the day that implied volatility was high. You can see that IV rank that we have charted here in purple was up and near the 100th percentile.

What that means is that almost 100% of the time going back over the last year, Microsoft's implied volatility was lower than it was at that one day right there. Naturally, this creates a tremendous opportunity for us to sell options and sell expensive premium. Now as you can see, as soon as we made that trade, Microsoft went right against our position and rallied up to about 49.

Now, if you had stop losses as we just talked about in one of our podcast episodes released today, a stop loss order in this trade would’ve gotten you out of the trade with a guaranteed loss because Microsoft rallied right towards our short strike at 49. Had we had some risk management in place with a stop loss order which we don't ever suggest, it would've guaranteed us a loss. But because we let the trade work all the way through and let the probabilities work out, we saw a subtle decline in Microsoft right after that, and it came back right into the middle part of our trading range here at about 46/47.

Now, as all of this was happening, you can see implied volatility started to drop, and it’s now down in the 53rd percentile, so it's almost been cut in half which allows the decay in these options to accelerate and therefore enable us to take a nice little profit out of this trade. I guess Microsoft had two things that worked in our favor. It stayed range bound, also implied volatility dropped, that allowed us to close out the trade well ahead of expiration for a nice little profit.

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Alright, the other trade that we got into on Friday was an iron condor in XLU. XLU is fascinating because it's a utility’s ETF, so it’s got some good liquidity. We have it on our watch list. We decided to do something a little bit different because implied volatility was high in XLU and we did an iron condor, but we made the short strikes of both the call spread and the put spread the same.

It acts very similarly to a straddle which is the 47/47 call and put on both sides, so 47 call, 47 put, works very much like a straddle, and then we bought protection a little bit further out on either side about three strikes away or $3 away. On the call side, we did the 47/50, so we moved $3 out and bought the 50s. On the put side, we did the 47/44, so we walked three strikes out down below the market and bought the 44s for protection.

Let's go here to the chart of XLU, and you can see exactly what kind of the trading setup was. You can see here from the chart that XLU has had a pretty good run-up here as we headed into the New Year, but then just recently has started to decline. It may end up being more of a range bound type market, and we don't know exactly what’s going to happen, but we’re trying to play it range bound because of the recent high and recent low and the stock trading in the middle of that range.

Now as XLU had all of that, you can see that its implied volatility down here below in purple has also spiked. Now it’s up in the 85th percentile which means that 85% of the time over the last year, implied volatility is lower than it is right now. And in fact, we can look here on the chart, and you can see that only a couple of times over the last year has implied volatility been about as high as it is right now.

And just over the last year or so, it’s been about three or four times that it’s been higher than where it is right now. We’re selling options at a high level of implied volatility. They’re very expensive, about where they should be long-term, so that's why we're making the iron condor type trade. And when we go in here to the analyze tab, I want to show you guys exactly what this profit loss diagram looks like before we bought the protection.

Remember I said that basically what we’re doing here is we’re acting like this spread is basically a straddle which is the 47 straddle, so we're selling both the 47 call and the 47 put right at the money, and then what we did is we went out and bought protection for those options without having to hold the straddle, so this is what the straddle would look like.

And then what we decided to do is at 50 here, we’re going to buy protection here forward so that we minimize our risk, and at 44 which is about here down, we’re going to reduce our risk by purchasing those put options and creating those credit spreads on either end. When we add those to the chart, this is what the eventual profit loss diagram looks like. We make money between 45 and 49. That’s our profit window somewhere in there.

But our risk is 100% capped to about $110 on the trade because of the protection that we bought at 44 on the put side and 50 on the call side. It looks very similar to a butterfly strategy, but it's an iron condor with those short strikes the same as on either side. When we go in here to the trade screen, and you guys can see the different trades that we’ve made, you know that our short strikes are right here the same at 47 and then we just went out an even distance on either end at 44 and 50 to buy the protection.

It’s not too complicated, but you just have to know what strikes to buy and what strikes to sell. But an exquisite trade, high probability setup, we’re not looking to carry this trade all the way through expiration, we’re probably seeking to get about 25% to 50% max gain out of it, and then we’ll end up closing the trade out.

That's all the trades that we made on January 2nd. As always, if you guys have any questions or comments, please add them right below inside the membership area in the comment section. I’ll make sure I get back to all of those tonight or tomorrow before the open on Monday. And happy trading!

About The Author

Kirk Du Plessis

Kirk founded Option Alpha in early 2007 and currently serves as the Head Trader. In 2018, Option Alpha hit the Inc. 500 list at #215 as one of the fastest growing private companies in the US. Formerly an Investment Banker in the Mergers and Acquisitions Group for Deutsche Bank in New York and REIT Analyst for BB&T Capital Markets in Washington D.C., he's a Full-time Options Trader and Real Estate Investor. He's been interviewed on dozens of investing websites/podcasts and he's been seen in Barron’s Magazine, SmartMoney, and various other financial publications. Kirk currently lives in Pennsylvania (USA) with his beautiful wife and three children.