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Learning How Iron Condor Works and Its Importance To Investors

The term iron condors may already be known to experienced investors and professional money managers. Still, to those people who are about to engage in trading, it can be mind-boggling. It is wise to understand what it does and why it’s the most used option strategy in trading if you’re one of them.

Its Definition

This option strategy consists of two calls, two puts, and a couple of strike prices. All of them have similar expiration dates. When the underlying asset’s closure occurs during the expiration, the iron condor gets the highest profit. The end goal here is to earn from the lowest volatility of the underlying asset.

Like a standard condor spread, the iron condor gets the same payoff but utilizes both puts and calls rather than one. The iron condor and condor are both the iron butterfly and butterfly spread’s extensions, respectively.

How It Works

There are quite a few of the risks associated with the iron condor strategy. The strike options, the wings, act as protection from crucial moves in both directions. Due to such risk restrictions, the potential for profit is also restricted.

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When the trader opts for this strategy, they would prefer the expiration of all the options to occur. This is only achievable if the underlying asset’s closure occurs at the center of the two strike prices during its expiration. Once it is achieved, there will be a certain amount of charge incurred to close the trade. But if it didn’t go through, the loss is still restricted.

The Profits And Losses Involved

The highest profit one will get for an iron condor is the value of the premium or credit generated for making the four-leg options strategy. On the other hand, there’s a limit for the maximum loss. This is the disparity between the short call and long call strikes or the short put or long put strikes. Deduct the loss by the received net credits, but you must add in the commissions to arrive at the trade loss.

Iron condor option trading can be tricky, one should be knowledgeable to choose a less risky strategy

Advantages

Versatility

Option selling and buying are flexible in nature. This is also applicable when applying the iron condor. Within the case of the major relocation of the stock’s proportion cost, which you’ve made an iron condor, any loss will allow you to buy back the underwater short option. If the directional move of the stock goes on, the lengthy option’s value grows and can potentially offset the loss.

Secured Maximum Profit On Half The Trade

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Since the stock is unable to close put strike prices all at once, one of the legs is expected to expire worthlessly. This means you’ll earn the highest possible profit on that part of the trade.

Safe Premium

You can choose a more practical approach and decide to get a similar total net premium on hand on the bear call spread or single bull put strategy. In theory, you’re taking less risk by making the strike prices far enough from the latest share price and earn a similar amount of money.

Written By

Riley is a finance, lifestyle, and entertainment writer living in San Diego. He received his bachelor's degree in Journalism and Multimedia from the University of Oregon. His work has been featured in many finance and lifestyle publications throughout the US. When he is not writing, Riley enjoys reading and hanging out at the beach with his dog.

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