What is Butterfly Spread ?

To establish a butterfly spread, you take the positions in four options and at three strikes. Outlook of the buyer is stable.

Long Butterfly spread:
Buy one call at lower strike , sell two calls at middle strike and buy one call at higher strike.
Actually it is a combination of a vertical bullish spread and a vertical bearish spread.
The positions can be established either with only calls or only puts.


Assume January RPL calls at :

• Strike 90 @ 13
• Strike 100 @ 7
• Strike 110 @ 1

1. Buy one call at 90, premium Rs.13
2. Sell two calls at 100, premium Rs.7
3. Buy one call at 110, premium Rs.4
   

Net premium = -13+14-4 =-3
Net debit = -3

Maximum loss in this spread can be Rs.3, premium paid, below
Rs. 90 and above Rs.110 spot expiry.
Maximum profit is Rs.7 at Rs. 100 expiry


Short Butterfly spread: Here outlook is volatile.

1. Sell one call at lower strike.
2. Buy two calls at middle strike
3. Sell one call at higher strike.

If we take the same figures as in long butterfly spread then, the butterfly spread seller will make a profit of Rs.3,below Rs.90 and above Rs.110 spot expiry. He will incur a loss of Rs.7 at Rs. 100 spot expiry.