The ATM Earnings Iron Butterfly 4 Option Strategy
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There are some options strategies that I probably shouldn’t teach folks for the sheer complicated nature of them. In short, if you fail to find the right security, or set them up correctly, you can seriously get burned. But dammit, this one is just too damn cool! I have used it more times than I can count, and the majority of the time I’ve come out on top. Very few times has this strategy turned against me and yet, it’s a strategy that can make you more in one short trade than most folks can make in a week working their 9-5 jobs. Of course, if the trade turns against you, it can lose you more in a short time than most folks can make a week; particularly if you don’t have the discipline to wait it out. The majority of the time I am in and out of the trade in 10-20 open market munities in regular market hours. Meaning that I sell the strategy two minutes before market close and buy it back for considerably less roughly 5-18 minutes after market open.
The Iron Butterfly Options Strategy: An Iron Butterfly is a market neutral 4 option strategy (Which means it does not matter which direction the stock trades) that aims to turn a profit when the price of the security does not make move in either direction larger than the premium you collected minus the protection you bought. It works by selling a put and call with the strike at current market prices and buying a put and call 15-20% out for protection from dramatic swings. When implemented on the right security reporting earnings on a Thursday evening, with options expiring the Friday after, you can make some serious cash on Implied Volatility crush!
Finding the right security:
First you need to find the right stock. There are certain conditions that must be met. First company needs to be reporting earnings the after-hours (AH) on a Thursday, or pre-market (PM) on a Friday. I’ve personally had more success in instances where earnings were reported Thursday AH. Quite often earnings reported PM can have larger swings at open as traders and institutions haven’t had time to digest the earnings, and panic/FOMO ensues. How do you find which companies are reporting on a Thursday? By looking at the earnings calendars of course!
Second you need to ensure that the options assigned to the reporting security are expiring on a Friday. This is easy enough, just look up the date options expire in whatever trading platform you use.
Thirdly, you need to ensure that the options have an exceptionally high implied volatility (IV). Implied volatility is what the market assesses the move in the security will be between the time you purchase the option to the time the option expires. What you are looking for are IV’s higher than you believe the price of the security will actually move after earnings. For example, if the premium on the at the money (ATM) Calls and Puts are $5.00, then the market is pricing in a $10.00 swing. Based on the history of the earnings and the implied volatility you must personally assess if such a swing is likely or if its overblown. To see historical IV I use Market Chameleon, but there are other tools out there as well.
Note: If you make a misstep on any of the aforementioned criteria you can get burned. If you choose the wrong options date or didn’t verify that earnings will be announced at the appropriate time you can get burned. If you are rushing in to simply implement the strategy instead of waiting for the appropriate over pumped IV security, you can get burned. If you choose a security with under estimated IV you can get burned. I find the best way to find over-pumped IV options is to look for those companies with a history of wild positive swings whereas the assumption that they can maintain previous earnings is apparent to traders, but to those who know financials they will underperform expectations. In other words, they’ll still likely beat earnings, but not to the tune that was expected, leading to a lackluster price movement.
Setting up the Strategy: In order to implement this options strategy, you’ll need to set it up as a 4-option strategy about 10 minutes before market close. You do not want to piece this together one option at a time. You’ll want to sell this as a complete strategy all at once and later close the complete strategy all at once. Examine below
Robinhood Users: For those of you unfortunate enough to use Robinhood and haven’t made the smart move of switching to a more competent broker.
- Open up the “Trade Options” menu
- Click the appropriate expiry date at the top (should be next day as you are playing a security reporting earnings on a Thursday Evening)
- Click the “select” button on the top right. This will result in a menu allowing you to choose multiple options with the bubbles indicated on the left.
- Click the sliders at the top and move them to “sell” & “call.”
- Choose whichever Call option is “at the money,” or exceptionally close to it, meaning closest to current trading price.
- Move the sliders at the top to “Put” and “Sell.
- Chose the same strike as you chose for the Call option, which should be at the money.
- Thus far you have selected to sell both a Call and Put at the same strike which is as close to the current trading price as possible. Now you set up your protection. Click the sliders at the top to “Buy” and “Call” and choose your protective call 15-20% above the strike of the Call you sold. If you do not know what is 15-20% away simply multiply the strike price of the options you sold by 0.15 or 0.20. That will give you 15-20% respectively.
- Click the sliders at the top to “Buy” and “Put” to choose your protective Put 15-20% below the strike of the put you sold.
- Click the “4 Options Selected” icon at the bottom of the screen.
- Click “review.” You should see a minimum credit, not a debit, at the bottom of the screen.
- It will then ask you if you expect a credit or a debit. You will choose “credit.”
- It may ask you if you want to enter your own limit price, which simply means the minimum price you want to sell this strategy for. I always recommend editing the limit price high, and adjusting it if possible when it becomes apparent that its not filling.
- Review and submit your order.
Webull Users: This exercise is much simpler on Webull. Congrats!
- Click the options menu.
- Click the light blue options strategy button at the bottom left of your screen. It should read whatever is the last options strategy you used.
- Set the strategy to “Iron Butterfly.”
- Select the set of options on the screen that has the at the at the money price for the Put and Call in the center. So, if the stock is trading for $100 you should choose the strategy that looks something like this. 95/100/100/95. You will note that the wings are not set at the appropriate 15-20% mark. Never mind that for now.
- Click the appropriate strike and hit the “buy” button at the top of the popup screen that shows you your 4-option strategy. By hitting the “buy” button you will set your strategy to “sell.” You want to sell this strategy.
- Click “edit.”
- You should see a visual where a red Call option and a red Put option are sold in the center at the same price and a green Call and a green Put option are sold on either side. If not, this is an easy fix. If the center options are green just click them with your finger and drag them down below the line. This will flip the strategy to sell.
- Now you set your protection by clicking the “width” button. Sometimes you’ll get a “error loading try again later popup.” Just do it again as it always works on the second attempt. Then you set your width to how much of a spread you want on either side of your option for the protection. Your spread should be whatever number gets you 15-20% below or above the strike of the options you sold. So, if the strike of the options you sold is $100 your spread should be anywhere between 15-20. If you do not know what is 15-20% simply multiply the strike price of the options you sold by 0.15 or 0.20. That will give you 15-20% respectively.
- Now you should see the same screen but with a wider protective spread. Note that the strike of the options you want to sell may have moved. This is because Webull automatically sets the strike of the calls and puts you sold by the spread of the options available. While this is annoying, you can simply put your finger on the options you’re selling and slide the entire strategy to the appropriate strike. Note that the current price of the stock is located in the top right corner under the “mid-price” data in case you forget. If it does not let you set the price to the appropriate spot for the options you want to sell, you may need to adjust the “width” again. This is because Webull is looking for protection that puts the options you sold at the EXACT center. If this is the case, put the width higher if you are at 15% and lower if you are at 20%. You’ll find the sweet spot that allows you to sell your ATM Call and Put at the appropriate strike and get the correct protection as well.
- Adjust the limit price to a price that’s much higher than the mid-price. Don’t worry if it does not fill, you can adjust it lower later! That way you can sell at the highest possible price before market closes by editing your limit order. Can’t do this on Robinhood!
- Click “Sell” and then “Confirm.” You’re all set.
- Wait until 2-5 minutes before the market closes, click on your open orders, and adjust the limit price to the highest number you can get it filled at. Once filled you are done. You are ready to profit from the Iron Butterfly!
Other Considerations: Some of you may be scratching your heads as to a few items on the list of instructions. Fortunately, I see your questions before you ask them and will explain here.
Question: Why did I buy a call and a put? Can’t I just sell the two options at the strike?
Answer: You can … if you got a boat load of money to toy around with. You broker will want you to buy 100 shares to cover the call and have cash on hand for the cash secured put. With the protective wings you bought you won’t need to put up but the total amount of money you can possibly lose. While Webull shows you this data automatically when you set up this strategy, Robinhood does not … so get out your calculator Robinhood users!
Question: What time should I set this strategy up?
Answer: 10 minutes before market close.
Question: Why do I put the limit price so high?
Answer: Because the IV will increase to its highest point the closer to the bell you get before an earnings announcement. You don’t want to sell for a price lower than what you can get later. That way all you need to do is adjust the price slowly lower until it fills a few minutes before market close. The higher you sell for the less likely this strategy will lose you money if the trade turns against you.
How this Strategy Works: This strategy works by taking advantage of the over-pumped price of options that happen before earnings are announced as a result of IV (Implied Volatility). The closer options get to earnings the larger the implied volatility. The larger the IV the larger the options price. That large move expected around earnings time is priced into the Put and Call options because, well, …it must be! Else the institutions that sell them would lose a ton of money! So, if there is a 10% move expected, the premium for a Call at a $100 strike would be $5 or more and the premium for the Put would be $5 or more. However, after earnings are announced there is no more estimation as to what the volatility is on the underlying, and the option is set to expire in less than 7 ½ hours, granting virtually no time for the price to move further. The IV that once pumped the options premium sky high gets crushed and Iron Butterfly holders buy to close this entire strategy back for pennies of what they sold it for. So, when dumb retail traders are fruitlessly attempting to place their options bets on which way the security is going around earnings time (And they still won’t profit even if they guess right due to the premium they paid as a result of pumped up IV), Iron Butterfly holders could care less if it goes up, or if it goes down. That wont matter. The only thing Iron Butterfly holders care about is if a security that is expecting a 10% move exceeds 9%. If it does they lose money. If the price stays the same, however, Iron Butterfly holders max out their profit.
The Math: Let’s say there is a 10% move expected in ticker XYZ trading for $100.00. You sell the call and the put at the strike of $100.00 for 5.00 each. This gives you a credit of $10.00 which totals to $1,000 of premium. But you bought a call and a put 15% out for protection that cost you $0.50 each for a total of $1.00, or rather, $100. You now have a net credit of $9.00, or rather $900.00. So as long as the stock swings $9.00 or less you will make a hefty overnight profit. If it swings $9.00 or more, you’ll lose money. You will keep the premium on the losing side, pay any premium over $5.00 in price movement on the winning side, and lose what you paid for on the protection. So, if the price moves $6.00 by market open, you will have just made $300.00 overnight. If the price moves $3.00 by market open, you just made $600.00 overnight. If the price stays the same, you just made somewhere around $850 for an options strategy that you only personally put up $100 for. If, however, the price moves $10.00, you’ll lose roughly $100. If your protection is 15% away from the strike, the most you can lose on this play is $600 (Premium of $1000 – Protection of $100 – ($15.5 swing x 100 = $1,500) = negative $600.
Watching the Price Overnight: Don’t be surprised if the price swings wildly after trading hours beyond your comfort zone. It usually happens. Just check the price at 8:00 PM when AH trading ends to see where you are. It is not uncommon for the price to be testing your comfort level. Before the market opens you will usually see additional price action. Up and down up and down. Remember that AH & PM hours are highly volatile. Nothing matters until market open.
At Market Open: At market open you should hopefully have a profit. It may take about 5-10 minutes for your broker to register the price action on the options so be prepared for that! If, upon resuming the price action on the options you do not have a profit then you may need to wait for the price to correct back to where you can sell for a profit. This is the part that separates the men from the boys. If you don’t have a profit by open are you willing to hold until you do or cut your losses? You CERTAINLY DO NOT want to get assigned if you have a small account. If you have a large account though, you may consider it, or even adjusting it so that you can buy shares from the Put you sold in the hopes of eventually recouping the loss later.
Remember the longer you wait to close the position the more IV crushes the options you sold. Remember the options you bought will likely be worthless. Remember that waiting in hopes of attaining a higher profit can result in less of a profit or vice versa. As you employed this strategy as a 4-option strategy you can close this strategy as a 4-option strategy. Too easy.
How do I play it? … you may ask. Well If I have a solid profit I just close out the position!
Real Life Examples: Below are some before and after screenshots of my most recent Iron Butterfly victories. Please note that SNAP sold off well beyond my profit zone and came back before market open. If I would have waited to close another two hours later I would have made over $2,000. Also note that I sold three Iron Butterfly SNAP Strategies and only one NET Strategy. Both positions were held for less than 20 minutes of regular market hours. In fact, I only held NET open for 10 minutes of open market hours.
SNAP 3:55 PM 02/04/2021 – 9:45 AM 02/05/2021
NET 3:58 PM 02/11/2021- 9:38 AM 02/12/2021
- Company needs to report earnings AH (after hours) on a Thursday or PM (pre-market) on a Friday (See Earnings Calendar).
- IV must be pumped more than you expect it to move. (See Market Chameleon)
- Must have options expiring on the next day Friday (See the options section in your trading platform).
- Must Sell 1xATM Call, Sell 1xATM Put, & Purchase 1xProtective Call & Purchase 1xProtective Put 15-20% from the Strike of the ATM CALL/PUT slightly before market close on Thursday.
- You don’t need to close out the strategy as a whole, but you may regret it if you don’t.
Conclusion: The ATM Short Iron Butterfly Earnings Strategy is not for the feint of heart nor the inexperienced. It takes time and research to set up and should NEVER be a large part of your portfolio. This strategy, if employed properly, will work MOST of the time. However, when this strategy turns against you, you can lose a lot as well. This strategy works best with the patient and disciplined and will rarely turn out as you expect it to. I also find it works best in bull markets at times where traders expect a correction or in bear markets when traders expect a reversal. The yin and the yang of sentiment during such times often helps this strategy play out well.
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IMPORTANT DISCLAIMER: I am NOT a registered investment adviser, broker dealer, or member of any other association for research providers in any jurisdiction whatsoever and I am NOT qualified to give financial advice. Investing/Trading in securities, particularly microcap securities, is highly speculative and carries an extremely high degree of risk. The information, analysis, and opinions listed above are my own and may not properly reflect the underlying conditions of a company or security. You should do your own Due Diligence. If you trade based on anything I have written YOU ACCEPT FULL RESPONSIBILITY AND LIABILITY for your own trades and actions and hold the author of this publication harmless. If that isn’t clear enough DO NOT TRADE, ACT, OR INVEST, BASED UPON ANYTHING I WRITE OR RECOMMEND. There, we should be solid now.