Long Condor

A long condor is similar to a long butterfly; however, the body of the position is constructed two strike prices rather than one. The strategy is used when the trader believes the underlying stock will move sideways through expiration and has a wider maximum profitability range due to the change in the body. This strategy combines a bullish vertical spread with a bearish vertical spread and has both limited risk and limited reward. We’ll use a put example to illustrate a long condor.

The long condor with puts is comprised of two long puts and two short puts all of which expire in the same month. One long put is ITM and one is OTM to create “wings” around the short options that are nearer to the money (i.e. “body”). This strategy is implemented for a net debit (the maximum risk) and performs best when the underlying remains in a narrow range through expiration. The maximum profit is limited to the difference between the strikes minus the net debit.

The call long butterfly combines a bull call spread (1 long ITM call + 1 short ATM call) and a bear call spread (1 short ATM call + 1 long OTM call) and as a result, is neutral. The upside breakeven is the highest strike minus the net debit and the downside breakeven is the lowest strike plus the net debit. This creates a profitability zone within the long strike prices. The risk is limited to both the downside and the upside (similar to a bear call spread and bull call spread, respectively) to the net debit paid to initiate the position. Profits are maximized when the underlying closes at the short call strike price-at this level the 2 short calls and 1 long OTM call expire worthless, while the long ITM is valued at the difference in strike price between the ATM call and the ITM call.

Since the market outlook for the long condor using puts is the same for the long butterfly using calls, the Merrill Lynch Biotech HOLDRS fund (BBH) will be used again. Table 1-2, provides trade details for the position. BBH has been trading sideways for almost four months by late August and the trader believes it will remain in a narrow trading range. Its current price is 178.35 and the trader reviews Oct put premiums to evaluate a long condor position.

Table 1-2: BBH Put Option Premiums (8/2006)

The trade is established by purchasing 1 Oct 170 put, selling 1 Oct 175 put, selling 1 Oct 180 put and buying 1 Oct 185 put for a net debit of $205 ((1.95 – 3.10 – 5.10 + 8.30) x 100 = 205). The maximum profit for this trade is the difference between the strike prices minus the net debit or $295 ((5 * 100) – 205 = 295). This will be realized if BBH closes at or slightly below 180 at expiration. The upside breakeven is 182.95 (185 – 2.05 = 182.95) and the downside breakeven is 172.05 (170 + 2.05 = 172.05). Although the maximum profit is less than the long butterfly using calls, the price range for profitability is greater.

Related Articles:

• Flying with Iron Condors
• The Condor Has Landed
• Iron Condor Set-Up Measures
• Iron Condor & Odds
• Iron CondorsTaking a Birds Eye View

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