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Short iron butterfly
A short iron butterfly is a four-legged, defined-risk, neutral option strategy. You sell an at-the-money call and put and buy out-of-the-money wings, collecting a net credit. The chart below shows a short iron butterfly with short call and put strike 100 at $5, long call strike 105 at $2, long put strike 95 at $2, and the profit/loss diagram.
Greeks and this strategy
| Greek | How it behaves |
|---|---|
| Delta | Near zero at the center. Becomes directional if price moves away from the pin strike. |
| Theta | Positive overall when price pins near the center—the short straddle decay exceeds long wing decay. |
| Gamma | Negative net near the center. Large moves force rapid delta adjustments against the position. |
| Vega | Negative. Benefits from implied volatility declining; hurts when volatility rises. |
Overview of short iron butterfly
A short iron butterfly combines a short straddle at the center strike with long protective wings at higher and lower strikes. The long wings cap maximum loss at the spread width minus the net credit received. Maximum profit equals the net credit and occurs if the stock closes at the center strike at expiration. Each contract represents 100 shares of the underlying (relevant for the US market).
Market outlook for short iron butterfly
Traders open a short iron butterfly when they expect the underlying to remain near the center strike through expiration. The strategy collects premium from the short straddle while limiting risk with the long wings. It is commonly used to express a range-bound view with defined risk compared to a naked short straddle.
How to open a short iron butterfly
Open the position by selling a call and put at the center strike and simultaneously buying a higher-strike call and a lower-strike put. All four orders are typically placed as a single complex order. The net credit received equals the straddle premium minus the cost of the wings.
Profit/loss diagram for a short iron butterfly
Maximum profit equals the net credit received and occurs if the stock closes at the center strike at expiration. Maximum loss equals the wing width minus the net credit. For example, selling a $100 straddle for $10.00 and buying $95/$105 wings for $4.00 creates a $6.00 credit on a $5.00-wide structure. Maximum profit is $600 per contract and maximum loss is $400 per contract.
How to enter a short iron butterfly
Submit a short iron butterfly order to your broker, specifying all four strikes, expiration, and a limit price for the net credit. The order is filled when the market provides at least your limit credit. Opening the position credits your account with the net premium minus commissions.
How to exit a short iron butterfly
Close the position before expiration by reversing all four legs as a single complex order. If the position can be closed for less than the original credit, you keep the difference as profit. At expiration, if the stock is away from the center strike, one or more legs may require exercise or assignment management.
The impact of time decay on a short iron butterfly
Time decay generally benefits the short iron butterfly when the underlying stays near the center strike. The short straddle loses extrinsic value faster than the long wings, which tends to reduce the cost of closing the position. Changes in implied volatility affect all four legs and can influence the spread value before expiration.