Using Iron Condors in options trading

Iron Condors is a viral options strategy. The term ‘iron condor’ refers to a credit spread strategy that involves four different options with the same expiration date but different strike prices.

The aim is usually that the underlying price will be between the two middle strike prices (at or around) at expiry, and as such, they can be traded when you expect the market to stay relatively still – like an iron bar! It is not wise to place them on highly volatile markets because you can lose out quickly if your prediction is wrong.

As we all know, trading options isn’t as simple as buying and selling; there are a lot of calculations and strategies involved for making money(check out Saxo bank for more info)! However, before we delve into the calculations, let’s look at precisely what an Iron Condor is.

Options strategy

An options strategy in which a trader holds equal but opposite positions on two of the strike prices of a particular option series, contrasted with buying or selling a straddle, which would involve holding one long position on one strike price and one short position on one another strike price.

The maximum loss on an iron condor is realized when the underlying stock expires precisely between the middle strike prices. At that point, both options have no time value, and either side can be closed for essentially a net cost equal to their intrinsic values (how much they’re “in the money”). The maximum gain occurs if the stock moves beyond either outer strike price before the expiration.

In short, you need to buy one option call, and one option put which are out of the money. You will look at two different strike prices for both put and call. One of which should be lower than the current market price & the other being higher than the current market price (if not, then there might be mispricing somewhere along the line!), selling both options simultaneously.

All this sounds straightforward enough – why would anyone want to use anything else? Well, I’m glad you asked that! First off, let’s address some issues with certain fundamentals:

Diversification is key

It’s always good practice to reduce risk by diversifying your trades; even though volatility reduces, it doesn’t mean you should place all your eggs in one basket. If the stock happens to go up or start moving severely downwards, your options will lose money (they’re out of the money), and they’ll decay fast because there’s less time remaining on them – so you’ll need to buy more if you want to keep hold of that position.

Time Decay

It is where it gets interesting! The further into the future an option contract has, the more expensive it becomes because of time decay – this is because there’s less time left for things to happen. Options are priced with the assumption that all scenarios will occur before expiration; this means, but practically speaking, that as each day goes by without anything happening, then your probability level of success is reduced dramatically.

The most practical way to implement it is through a calendar. You’d want to have the two middle strike prices, with the other being put options and the nearest being call options, both equally distant from the current market price. It will be your ‘calendar’. The ideal scenario will be that the underlying stock price should be between your call & put option or right on one of them at expiry.

Let’s break down all the calculations for you in simple terms.

Calculating delta values

Delta values are used to calculate how much an option contract will increase/decrease if the underlying asset price changes. To understand, you first need to know what a derivative is.

A derivative in layman terms is something whose price depends on the price of another thing; in our case, it’s the option’s value based on the underlying asset (stock) price.

The formula for calculating delta values: \begin{aligned} Delta=Call Delta+Put Delta \\Delta=(Change in Underlying Price [If stock increases or decreases by $1])/Current Option Premium \end{aligned}


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