Short Put Butterfly Options: Options, Futures, Derivatives & Commodity Trading

Short Put Butterfly Options

Details about Short Put Butterfly Spread Trading explained with an example
This series of articles will be dedicated to explaining another commonly traded option strategy called the Short Put Butterfly Options Trading. This strategy is a neutral strategy (direction neutral) but expects to benefit from volatility increase and big movements in the underlying stock or index price. In a way this is limited profit limited loss strategy and can be traded even by novice option traders. The only thing one needs to keep in mind is that this strategy involves first taking 4 different option positions at the entry level (all put Options) and at the exit closing (or exercising or getting exercise assignment) for all 4 put options, hence the option trading commission and brokerage costs may eat away into the potential profit.

What is a Short Put Butterfly Spread Option position?
A Short Put Butterfly Option position is combination of 4 put options ( 2 long and 2 short puts) which usually results in a NET CREDIT (i.e. net inflow of money) to the option trader.
However, one word about the popularity of short butterfly option trades - they aren't very popular among option traders despite offering net credit position. The reason - they are limited risk limited return option strategies and hence do not fair much better compared to the other common strategies of Straddles and Strangles, which offer limited risk unlimited return. (See Long Straddle Option Trading and Long Strangle Options Trading Explained: Example ).
But still, as an option trader, one needs to explore the various possibilities available within the limitless world of option trading, hence one should understand the Short Put Butterfly.

Short Put Butterfly Options Trading Explained

In which scenarios is the Short Put Butterfly Option Position profitable to the trader?
Short Put Butterfly Option can be traded when the option trader is expecting the markets to move in a big way in either direction - either upwards or downwards with a big value. However, the same can be accomplished with higher returns in Long Straddle Option Trading and Long Strangle Options Trading Explained: Example with better profit potential (but comes at a higher cost or higher risk). Main difference between Short Put butterfly and Long Straddle and Strangle is that is that Short Put Butterfly position is limited risk-limited profit position, while Long Straddle and Strangle are limited risk unlimited profit positions, but they come at comparatively higher cost and hence higher risk amounts.
Short Put Butterfly Option
Which one to choose is left to the option trader, depending upon their capital position. To understand the differences better, lets move on to Example & Payoff Charts of Short Put Butterfly Options
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