The Iron Condor is a defined risk strategy. I know up front exactly what my maximum profit and maximum loss are. These are the absolute extremes of the trade. The maximum profit is the credit I receive. Just like in the short vertical spread strategy, I will receive a credit for the spread sold. In this case, I receive a combined credit for each of the spreads.
The maximum loss will be the result of having the underlying instrument be totally above the short call spread or completely below the short put spread. In this case, the maximum loss will be the difference between the short and long strike prices minus the credit.
With the Iron Condor, I am effectively receiving twice the credit by selling both the call and put spreads and taking no additional risk over selling either one or the other of the vertical spreads. That's the beauty of this strategy when traded in the appropriate climate.
Why is that? If I just let the trade go until expiration, the most I risk is still $1.04. So my return on risk is $.48/$1.04 or 46%. I like to exit the trade in this case because I have a guaranteed profit in the trade and it will raise the probability of success.
Prior to placing the order, I'll need to determine the size of my position. I do this based on the maximum loss for the more aggressive strategy. In past strategies, I've used a total risk amount of $1000. Since I know the most I can lose on the trade is $1.04, I can calculate the position size as $1000/(1.04 x 100) or 9.6 contracts. I'll round that number down to 9 contracts.
Many brokers require approval for level 3 trading authority, which allows right to trade spreads. Before you begin trading spreads, you may want to check with your broker to make sure you are approved.
As orders go, this is a fairly complex one. I am attempting to buy a call, sell a different call, buy a put and sell a different put. Most brokers support the ability to enter this trade as a simultaneous order. Many even recognize this order as an Iron Condor and will only set aside margin for one side.
Some brokers designate opening and closing orders differently. In this case, I might place the order as 'Buy to open the April 25 call, sell to open the April 23 call, sell to open the April 19 put and buy to open the April 17 put for a net credit of $.96'
Because of the number of options (or legs) in the Iron Condor, the price between the bid and ask price for the total spread may be somewhat wide. I will usually attempt to put the order in for somewhere near the mid price or slightly toward the bid price. I may wait up to an hour to get filled but it is worth it if I can get a better price.
I've already mentioned that I like to close my Iron Condor trade when I can lock in 50% or more of the credit. There are a couple of other exits I use as well. Let me outline the exits here.
The Iron Condor strategy isn't nearly as complex as it appears. It can be a very nice strategy in a situation where the stock, ETF or index is trading in a range. In addition, since I am selling two short vertical spreads, I am taking advantage of the passage of time. In addition, this strategy benefits from a decrease in volatility since that will in turn decrease the price of the options.
This has been a quick run through the Iron Condor strategy. In the process, I've covered some of the key elements of a trading plan as well. These are based on a set of trading rules I follow, which are part of an overall option trading system I follow. This is a critical aspect of successful options trading. I've found I can't be successful trading any strategy just by knowing the mechanics. Having a system that defines what I do every time I trade is what helps me be consistent in my profits.
|Outlook:||Near term neutral
|Max profit:||Limited to the initial credit received
|Max Loss:||Difference between the strike prices of either call spread or put spread minus the credit|
|Time decay effect:||Benefits from passage of time
|Volatility effect:||Benefits from a decrease in volatility|