Iron Condor

The iron condor is a limited risk, non-directional option trading strategy that is designed to have a large probability of earning a small limited profit when the underlying security is perceived to have low volatility. The iron condor strategy can also be visualized as a combination of a bull put spread and a bear call spread.

Iron Condor Construction

Sell 1 OTM Put Buy 1 OTM Put (Lower Strike) Sell 1 OTM Call Buy 1 OTM Call (Higher Strike)

Using options expiring on the same expiration month, the option trader creates an iron condor by selling a lower strike out-of-the-money put, buying an even lower strike out-of-the-money put, selling a higher strike out-of-the-money call and buying another even higher strike out-of-the-money call. This results in a net credit to put on the trade.

Limited Profit

Maximum gain for the iron condor strategy is equal to the net credit received when entering the trade. Maximum profit is attained when the underlying stock price at expiration is between the strikes of the call and put sold. At this price, all the options expire worthless.

The formula for calculating maximum profit is given below:

• Max Profit = Net Premium Received - Commissions Paid
• Max Profit Achieved When Price of Underlying is in between Strike Prices of the Short Put and the Short Call

Iron Condor Payoff Diagram

Limited Risk

Maximum loss for the iron condor spread is also limited but significantly higher than the maximum profit. It occurs when the stock price falls at or below the lower strike of the put purchased or rise above or equal to the higher strike of the call purchased. In either situation, maximum loss is equal to the difference in strike between the calls (or puts) minus the net credit received when entering the trade.

The formula for calculating maximum loss is given below:

• Max Loss = Strike Price of Long Call - Strike Price of Short Call - Net Premium Received + Commissions Paid
• Max Loss Occurs When Price of Underlying >= Strike Price of Long Call OR Price of Underlying <= Strike Price of Long Put

Breakeven Point(s)

There are 2 break-even points for the iron condor position. The breakeven points can be calculated using the following formulae.

• Upper Breakeven Point = Strike Price of Short Call + Net Premium Received
• Lower Breakeven Point = Strike Price of Short Put - Net Premium Received

Commissions

Commission charges can make a significant impact to overall profit or loss when implementing option spreads strategies. Their effect is even more pronounced for the iron condor as there are 4 legs involved in this trade compared to simpler strategies like the vertical spreads which have only 2 legs.