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How to trade an Iron Condor

by Uncle Bob Williams

TIP: Iron Condors are great for beginning Options traders: they are easy to understand, easy to trade, and easy to monitor.

VIDEO: How to trade an Iron Condor

Description | Graph | Example | Trade Finder Rules
Pricing | Trade Monitor Rules | Conditional Orders | Low Prob Iron Condor

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Video: How to trade an Iron Condor


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Iron Condor Strategy Description:

A Condor is the street name for a Vertical Spread. An Iron Condor is not the name of an exotic bird, but it is the street name when we do both a PUT Condor and a CALL Condor on the same underlying, with the same expiration month.

A Condor works by Selling an Option on a Strike that is far away from the current market price, and then buying an Option on a strike a little further out to limit how much our potential loss could be.

A PUT Condor is made on the down side, and a CALL Condor is made on the up side.

Let's take our fictitious company AcmePlus as an example. AcmePlus stock is currently trading at $100 per share, and we know that the price of AcmePlus never varies more than $1 or $2 up or down. We can Sell the 110 CALL Strike for the Expiration next month for $1.00 per share. Based on the price movements of AcmePlus, we feel very confident that the Market price of AcmePlus will not reach $110 by next month at Expiration. However, when we sell this CALL Option that we don't own, that is called selling 'Naked', which puts us at almost unlimited risk if the price of AcmePlus shoots up. So, to limit how much loss we are exposed to, we can Buy the 115 CALL strike for $0.40 per share. [Remember that Options Contracts represent 100 shares of stock.]

=> When we Sell 1 CONTRACT of the 110 CALL Strike for $1.00, we will get paid $100 immediately into our Brokerage account. (We sold the 110 CALL for $1.00 PER SHARE, and there are 100 shares in 1 CONTRACT = $100.)

=> When we Buy 1 CONTRACT of the 115 CALL Strike for $0.40, we will have to pay $40 immediately to cover that purchase. (We bought the 115 CALL for $0.40 PER SHARE, and there are 100 shares in 1 CONTRACT = $40.)

=> Our Gross Profit = $60. (We received $100 for the sale of the 1 CONTRACT 110 CALL Strike, and we paid $40 for the 1 CONTRACT 115 CALL Strike: $100 - $40 = $60.)

=> The maximum possible gross loss is $500. This is what would happen if the Market price of AcmePlus was above $115 at the Expiration of our Options next month.

For example: If the price of AcmePlus was $116 at Expiration, then we would owe $600 on the 1 CONTRACT 110 CALL Strike we sold ($116 Expiration Price MINUS 110 CALL Strike = $6.00 per share * 100 shares in 1 CONTRACT = $600 owed.) However, we would receive $100 on the 1 CONTRACT 115 CALL Strike we bought ($116 Expiration Price MINUS 115 CALL Strike = $1.00 per share * 100 shares in 1 CONTRACT = $100 we receive as profit.)

The Net result is that we would have a loss of $500.

However, we received $60 profit originally when we made this trade as a "premium" for the risk we were willing to take.

So, even in the case of a complete and very unlikely loss, our NET LOSS would be $440. ($500 gross loss MINUS $60 profit on original trade = $440 Net Loss.)

However, that was the worst case scenario, and it was one that was not likely to happen based on our evaluation of the price movements of AcmePlus.

=> 12% Return on our Investment for a 1 month investment. We had $500 at risk, and we made $60 = 12% return on our Investment.

(For those math wizards, it is true that our Net risk was only $440, and that our rate of return on the Net risk was actually 13.6%. However, when we trade Options, there are Commission expenses which lower the rate of return. In order to show more realistic profit returns, we calculate returns based on the gross profits.)

SPREAD TRADES:

When we trade Options, we don't have to go through the process of buying and selling the individual Options of our Condor or other spread trades. We can make a "Spread" order where we specify what Options we want to Buy and Sell, and we can say what NET amount we want to get.

In our example above, we can put in a LIMIT Spread Order to Sell 1 Contract of the 110 CALL Strike and Buy 1 Contract of the 115 CALL Strike, and we want a Net Credit of at least $0.60 per share. We then leave the pricing of the individual Strikes of our position up to the Market Makers, as long as they give us a Net Credit of $0.60 per share.

Using a Spread Order also protects us against any unfavorable changes in the underlying Market price. We don't have to be in a rush to try to fill part of our order with a Spread Order. With Spread Orders, we either get the pricing we want or we can walk away.

COST & MARGIN REQUIREMENTS:

=> Credit Spread. We get paid a credit into our brokerage account as soon as we make the trade.

=> Maintenance Requirement: Our Broker will hold in 'maintenance' the maximum loss possible from this trade. The 'maintenance' money stays in our account, but we cannot trade against it while it is acting as the deposit for our Condor Trade.

=> Maintenance only on ONE side. If we have an Iron Condor: with both a PUT spread and a CALL spread on the same underlying, with the same expiration, most Brokers will only hold 'maintenance' on the Iron Condor trade for one side of the trade, the side with the greatest possible loss. The reason is, at expiration, both sides cannot have a loss; either both sides are profitable, or one side has a loss.

TWO TYPES OF CONDOR TRADES:

We have two types of Condor Trades that we use at Uncle Bob's Money: High Prob Condors and Low Prob Condors. For advanced traders, a Low Prob Condor is made much closer to the current Market price of the underlying, so it has a smaller Probability of success, but a much higher reward. A High Prob Condor is made far away from the current Market price of the underlying, so it has a High Probability of success and is traded by all types of Options traders. Further below, we outline the Trade Finder and Trade Monitor rules separately for High Prob and Low Prob Condors because they must be handled differently.

=> High Prob Condors are probably the easiest type of Options trade to understand, and so are perfect for the beginning Options Trader. High Prob Condors have orders that are easy to place and simple to monitor when we are in a position. It is also not difficult to set conditional orders to exit if the Market makes some unusual price movements. High Prob Condors are not only for beginners; many experienced Options Traders will only trade High Prob Condors because they are a solid Options Strategy that works in almost any type of Market environment.

It is possible to do a Super High Prob Condor, which is a variation of the High Prob Condor. In a Super High Prob Condor, the Delta of the Short Strike should be 4 or less, with a Standard Deviation of over 2 away from the underlying, and a minimum premium of 2% per side. These positions are not adjusted and are held even if the market hits the short strike. There is only a minute chance that the Market will move that much and stay at that point by Expiration. This trade can be done consistently, but a loss on this type of trade can mean a complete loss of those funds.

=> Low Prob Condors are for Advanced Options Traders. While they are technically the same type of trade as a High Prob Condor, the Low Prob Condor requires a diligent eye to monitor and adjust the position as the Market price goes up and down.

HOW WE PROFIT:

High Prob: We profit on a High Prob Condor when the Options reach Expiration and they expire worthless, meaning that the Underlying price never reached our exit points and we were able to hold these Options positions until Expiration. When the Options Expire worthless, we get to keep all the premium that we originally took in and now our Maintenance money will be released so we can go make another trade.

Low Prob: We profit on a Low Prob Condor through the reduction of the Time Premium of our Options. We will hold the Low Prob Condor for around 17 days, and as long as the Underlying price does not reach our exit points, we will be able to close our position at a much smaller cost than when we entered the trade. IE: We might have taken in an initial Credit of $250, and after 17 days, we might be able to close those positions for only $125, leaving us with a nice profit of $125 for our efforts.

HOW WE CAN HAVE A LOSS:

A loss can occur when the underlying has unusual price movements in one direction that force us to remove our positions early.

PROBABILITIES:

High Prob Iron Condors have probabilities of success generally over 90%

Low Prob Iron Condors have probabilities of success around 70% to 80%.

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Iron Condor Graph:

Uncle Bobs Money Sample Iron Condor Trade Graph


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Iron Condor Example:

The current price of AcmePlus stock is $100 per share.

Example A: CALL Condor

We SELL 1 Contract | ACMEPLUS | JUNE | 110 | CALL | $1.00 per share | Delta = .07

We BUY 1 Contract | ACMEPLUS | JUNE | 115 | CALL | $0.40 per share | (The Delta of the Long position is not a significant factor on a Condor; we only look at the Delta of the Short position.)

GROSS CREDIT = $60.00 ($0.60 per share)

MAINTENANCE = $500

Example B: PUT Condor

We SELL 1 Contract | ACMEPLUS | JUNE | 90 | PUT | $1.10 per share | Delta = .08

We BUY 1 Contract | ACMEPLUS | JUNE | 85 | PUT | $0.45 per share | (Recall that the Delta of the Long position is not a significant factor on a Condor.)

GROSS CREDIT = $65.00 ($0.65 per share)

MAINTENANCE = $500

IRON CONDOR TOTAL: (CALL CONDOR + PUT CONDOR)

GROSS CREDIT = $125.00 [$60.00 CALL CONDOR + $65.00 PUT CONDOR]

MAINTENANCE = $500 (Remember that most Brokers only take Maintenance on one side of a Condor, because we can't be wrong on both sides at Expiration.)

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High Prob Iron Condor Trade Finder Rules:

High Prob Iron Condors are generally held until Expiration, and the Short position is far Out of the Money, with a Delta of 7 - 9.

The Uncle Bob's Money Trade Checklist and Trade Finder automatically checks all the relevant factors listed here.

view: Trade Finder screen shots

TIME FACTORS:

=> Time to Enter Trade: 55 days until 35 days prior to expiration

=> Preferred Time to Enter Trade: 49 days or 39 days prior to expiration

=> Minimum Time Premium: N/A

=> Earnings and News: On stocks, avoid earnings announcements

=> Time In Trade: Held until Expiration

VOLATILITY FACTORS:

=> Maximum IV: N/A

=> IV Range: N/A

=> IV Channeling: N/A

=> IV Trend UP: Only bad if it's fast.

=> IV Trend DOWN: OK

=> IV Skew Range: N/A

PRICE FACTORS:

=> Minimum Underlying Price: N/A

=> Strike Pricing: N/A

=> Minimum Premium: $0.40 for 5 point spreads, $0.60 for 10 point spreads, $0.80 for 20 - 25 point spreads, $1.00 for 30 + point spreads.

=> Price Movements In Last Week: +/- 5%

=> Price Movements in Last Month: +/- 10%

=> Price Movements in Last 3 Months: +/- 15%

=> Delta Neutral: N/A

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High Prob Iron Condor Price Negotiation:

=> Trade one side at a time. IE: PUT Spread and CALL Spread should be traded separately.

=> Determine the lowest price to accept on each Spread before starting to trade.

=> Start at the Mid Price and wait a few minutes.

=> Increase price by the smallest amount possible ($0.01, $0.05, etc.), and wait before changing the price again. Never exceed the lowest price limit.

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High Prob Iron Condor Trade Monitor Rules:

The Uncle Bob's Money Trade Monitor automatically shows the profit level for each strategy and checks the relevant factors.

view: Trade Monitor screen shots

=> Remove the trade if the Delta of the Short Strike reaches: 16, 20, 25 or 30. Depends on the comfort level of the Investor. Never let the Market price reach the short Strike, as the cost to exit will be significant.

=> When the cost to remove the position is $0.15 or less, remove it.

=> If the price movement of the underlying exceeds the Trade Finder values, exit the trade.

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High Prob Iron Condor Suggested Conditional Orders:

The Uncle Bob's Money Trade Monitor automatically shows the approximate values of the underlying when the Delta of the Short Strike hits the suggested exit points. Those underlying price points are used for placing the Conditional Orders.

EXAMPLE:

The current price of AcmePlus stock is $100 per share.

CALL Condor

We SELL 1 Contract | ACMEPLUS | JUNE | 110 | CALL | Delta = .07

We BUY 1 Contract | ACMEPLUS | JUNE | 115 | CALL

Suggested Conditional Orders: (These amounts are listed on the Uncle Bob's Money Trade Monitor Page. They can also be seen on the Uncle Bob's Money Trade Finder page, on the Advanced Tab before you decide to trade.)

Est. Delta of Short: 16 ~ $105 Market Price

Est. Delta of Short: 30 ~ $108 Market Price

PUT Condor

We SELL 1 Contract | ACMEPLUS | JUNE | 90 | PUT | $1.10 per share | Delta = .08

We BUY 1 Contract | ACMEPLUS | JUNE | 85 | PUT | $0.45 per share | (The Delta of the Long position is not a significant factor on a Condor, as we only look at the Delta of the Short position.)

Suggested Conditional Orders:

Est. Delta of Short: 16 ~ $95 Market Price

Est. Delta of Short: 30 ~ $92 Market Price

NOTE: We create 2 independent conditional orders; one for the CALL Condor, and a separate conditional order for the PUT Condor. We do Not need to remove both sides of the Iron Condor at the same time. We can simply remove the side that is problematic.

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CONDITIONAL ORDER for the CALL Condor:

STEP A) Select "Single Order"

STEP B) Delta:

=> Select the CALL Condor Trade, and create a 'closing order'. (You can manually select the opposite spread to close the position if your Broker doesn't have the 'closing order' possibility.)

=> Time in Force: GTC (Good 'Til Cancelled)

=> Price Rules: Market (We don't want to set a limit price, because we don't know what the pricing will be and we want to close this position if the underlying hits our break-even point.)

=> Submit at Specified Market Condition: When the "MARK" of the Underlying is "AT OR ABOVE" price of "108". (The trigger is the price of the Underlying when the Delta of our Short position reaches our exit level, in this case a Delta of 30.)

Your broker will describe this trade as:

1. Wait until the following condition is satisfied: mark price of the security is more or equal to 108.00. This order will show a WAIT COND status during waiting;

2. Submit the following order: BUY +1 VERTICAL ACMEPLUS JUNE 110/115 CALL at current market price. The order is valid until it is either filled or cancelled;

STEP C) Confirm that the trade was entered correctly, and submit the trade.

We now have a conditional order that will close our CALL Condor if the underlying price hits $108. (Our PUT Condor will NOT be affected, nor will any conditional orders that we placed on the PUT Condor.)

NOTE: If we decide to manually exit positions, we must first cancel ALL conditional orders that we placed on those positions.

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CONDITIONAL ORDER for the PUT Condor:

STEP A) Select "Single Order"

STEP B) Delta:

=> Select the PUT Condor Trade, and create a 'closing order'.

=> Time in Force: GTC (Good 'Til Cancelled)

=> Price Rules: Market

=> Submit at Specified Market Condition: When the "MARK" of the Underlying is "AT OR BELOW" price of "92". (The trigger is the price of the Underlying when the Delta of our Short position reaches our exit level, in this case a Delta of 30.)

Your broker will describe this trade as:

1. Wait until the following condition is satisfied: mark price of the security is less or equal to 92.00. This order will show a WAIT COND status during waiting;

2. Submit the following order: BUY +1 VERTICAL ACMEPLUS JUNE 90/85 PUT at current market price. The order is valid until it is either filled or cancelled;

STEP C) Confirm that the trade was entered correctly, and submit the trade.

We now have a conditional order that will close our PUT Condor if the underlying price hits $92. (Our CALL Condor will NOT be affected, nor will any conditional orders that we placed on the CALL Condor.)

NOTE: As always, if we decide to manually exit positions, we must first cancel ALL conditional orders that we placed on those positions.

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Low Prob Iron Condor Trade Finder Rules:

view: Trade Finder screen shots

Low Prob Iron Condors are generally held for 17 days, and the Short position has a Delta of 16 - 19.

Ideally, the Short Strike should be at least 1 Standard Deviation away from the underlying based on an Expiration of 17 days from now.

The Uncle Bob's Money Trade Finder shows the 17 Day Standard Deviation Calculation for each Short position on the “Advanced” tab.

The Uncle Bob's Money Trade Checklist and Trade Finder automatically check all the relevant factors.

TIME FACTORS:

=> Time to Enter Trade: 35 days until 25 days prior to expiration

=> Preferred Time to Enter Trade: 30 days prior to expiration

=> Minimum Time Premium: N/A

=> Earnings and News: On stocks, avoid earnings announcements

=> Time In Trade: 17 days

VOLATILITY FACTORS:

=> Maximum IV: Not High

=> IV Range: Medium to Low End of the range.

=> IV Channeling: N/A

=> IV Trend UP: OK

=> IV Trend DOWN: Only bad if it's fast.

=> IV Skew Range: N/A

PRICE FACTORS:

=> Minimum Underlying Price: N/A

=> Strike Pricing: N/A

=> Minimum Premium: Must get at least 25% of the Maintenance as Premium. IE: If the Maintenance is $1,000, we must get at least a $250 credit on the trade.

=> Price Movements in Last Week: +/- 5%

=> Price Movements in Last Month: +/- 10%

=> Price Movements in Last 3 Months: +/- 15%

=> Delta Neutral: N/A

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Low Prob Iron Condor Price Negotiation:

=> Trade one side at a time. IE: PUT Spread and CALL Spread should be traded separately.

=> Determine the lowest price to accept on each Spread before starting to trade.

=> Start at the Mid Price and wait a few minutes.

=> Increase price by the smallest amount possible ($0.01, $0.05, etc.), and wait before changing the price again. Never exceed the lowest price limit.

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Low Prob Iron Condor Trade Monitor Rules:

The Uncle Bob's Money Trade Monitor automatically shows the profit level for each strategy and checks the relevant factors.

=> Rule # 1: Remove the trade if the Delta of the Short Strike reaches: 30.

=> Rule # 2: Remove the trade if the loss equals 12.5% (When the loss equals half of the credit). IE: If we took in a $250 credit, we would exit the trade when the loss equals $125: Where we would have to pay back the $250 credit, plus another $125 out of our pocket.

=> When the profit Yield equals 12.5% (half of the original credit), we should remove at least half of the position. Any remaining positions should be monitored closely and should be removed according to the comfort level of the Investor.

=> If the price movement of the underlying exceeds the Trade Finder values, exit the trade.

=> If the Time in Trade exceeds 18 days, the position should be monitored very closely or exit. It is possible to let a Low Prob Condor go until Expiration, but be wary of the Settlement values because the pricing can jump at Expiration. It is best to exit Low Prob Condors early and lock in your profits.

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Low Prob Iron Condor Suggested Conditional Orders:

Please see the High Prob Iron Condor Suggested Conditional Orders, above.

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