An option strategy wherein the investor uses a combination of bull spread and bear spread.
There are three different striking prices involved in a butterfly spread.
Using only puts, the butterfly spread consists of buying one put at the highest striking price, selling two puts at the middle striking price, and buying one put at the lowest striking price.
When to use this strategy?
This strategy is used when the investor is neutral and thinks that the price of the underlying security will neither rise nor fall by expiry.
How to build this strategy?
This strategy has three legs:
Leg 1 – Buy 1 ITM Put
Leg 2 – Sell 2 ATM Puts
Leg 3 – Buy 1 OTM Put
Credit Spread/Debit Spread
This is a Debit Spread Strategy.
The profit potential in this strategy is limited.
When is this strategy profitable?
The investor earns a profit when the underlying stock price remains unchanged at the expiration.
The investor faces limited risk in this strategy
When is this strategy unprofitable?
The investor faces maximum loss when the price of the underlying security is either less than the strike price of lower strike price put option purchased, or greater than the strike price of the higher strike price put option purchased.