Skip to main content
Track Butterfly spread
5 / 18
Search the archiveLibrary
Library

2008issue C081

Range-bound butterfly debit versus iron credit

The same middle-strike, range-bound butterfly can be wired as a three-leg all-call or all-put debit or as a four-leg iron credit. The shapes are often described as similar, but cash at entry, posted capital, commissions, and leftover expiration risk are different bookkeeping problems inside a diversified book.

  • A conventional butterfly uses only calls or only puts: two short at-the-money contracts form the body, and one higher-strike plus one lower-strike long form the wings.
  • An iron butterfly mixes a short call spread and a short put spread that share one middle short strike, with both longs out of the money, and is typically opened for a credit.
  • The three-leg debit and four-leg credit can be described as similar in risk-reward shape, yet commissions and posted capital can still differ.
  • Longs left open into expiration generally expire with no residual value if they are out of the money or at the money; in-the-money longs are subject to automatic exercise once they meet the clearinghouse threshold.
Entries in this reading1 entry
Current trackButterfly spread29 readings

The range-bound body and wings

A conventional butterfly is built with only calls or only puts by selling two at-the-money contracts and buying one higher-strike and one lower-strike contract. The shorts form the body and the longs form the wings.

The intended regime is a contained range near the short strike. The body is meant to lose more value than the two wings combined if the underlying stays near that middle strike into expiration.

Three-leg debit versus four-leg iron credit

An iron butterfly uses both puts and calls: a short call with a higher long call plus a short put with a lower long put, sharing one short strike, with both longs out of the money.

The all-call or all-put butterfly is typically a debit construction because it includes an in-the-money long, so the longs cost more premium than the shorts collect and cash leaves the account at entry. The iron butterfly is typically a credit construction because both wings are out of the money, so the shorts collect more premium than the longs cost and cash enters the account at entry.

Capital, commissions, and leftover longs

The iron version has four option legs and the conventional version has three, so commissions and posted capital can differ even when the two constructions are described as producing similar risk-reward shapes.

If a long option is left open into expiration, out-of-the-money and at-the-money contracts generally expire with no residual value, while in-the-money contracts are subject to automatic exercise once intrinsic value meets the clearinghouse threshold. Starting with the June 2008 expiration, that automatic-exercise threshold was lowered from five cents to one cent of in-the-money value.

Editorial interpretation: the conventional debit starts with an in-the-money wing, so leftover automatic-exercise risk is not the same booking problem as an iron credit whose wings start out of the money. Carry here means only that cash leaves or enters at entry, not a separate financing claim from the archive.

Educational research material, not investment advice. Historical source context does not establish present-day performance.
5 of 18 in the Butterfly spread track
20081-1 pp.Next on Butterfly spreadIron butterfly payoff construction in volatile crudeAn iron butterfly is a same-type, same-expiry structure that buys one near-the-money option, sells two out-of-the-money options at one shared strike, and buys a further option equally far away.
All readings on this track · 18 readings
  1. 2003Specify a butterfly as one range procedure
  2. 2006Index volatility alignment, skews, and butterfly construction
  3. 2006Oil proxies, volatility regimes, and bounded overlays
  4. 2007Pairing a double-diagonal overlay with an income butterfly
  5. 2008Range-bound butterfly debit versus iron credit
  6. 2008Iron butterfly payoff construction in volatile crude
  7. 2010Constructing directional out-of-the-money butterfly spreads
  8. 2010Modified butterfly and calendar spreads in high-priced names
  9. 2011Broken-wing put butterfly: credit, vega, and assignment
  10. 2013A live-cattle call butterfly is a different risk object than an outright call
  11. 2017Put butterfly payoff construction from an implied move and premium
  12. 2017One-day earnings volatility, ratio spreads and butterflies
  13. 2017Building a staggered broken-wing butterfly book
  14. 2017Below-the-money butterfly spreads sized by volatility regime
  15. 2018Why day-one option risk curves misread theta, calendars, and butterflies
  16. 2019An expected-value filter for defined-risk option spreads
  17. 2019Failed breakout as a setting for an out-of-the-money put butterfly
  18. 2020Limited-risk call butterfly construction in volatile oil
By fieldOptions and volatility435 readingsBy year2008150 readings
All 29 readings tagged Butterfly spread
Also on Butterfly spread5 readings
2001Constructing butterfly-spreads from a weekly impulse to daily D2003Specify a butterfly as one range procedure2006Index volatility alignment, skews, and butterfly construction2006Oil proxies, volatility regimes, and bounded overlays2007Pairing a double-diagonal overlay with an income butterfly