Construction: The Long Condor can be constructed using either all calls or all puts. All options must have the same expiration date. For calls, buy one call at one strike, sell another call at a higher strike, sell another call at yet a higher strike, and then buy one call at an even higher strike. All strikes can be equally spaced, but other variations can be created using different spacings. The strategy results in a debit. In the case of an Iron Condor, you’re short a strangle while long a strangle around it, which results in a credit.
Function: Premium collection strategy with upside and downside protection. Also a short volatility play.
Bias: Neutral.
When to Use: When you feel the stock will trade in a fairly tight range between the two short strike prices and stagnate there. Also if you feel the stock has a likelihood of a decrease in implied volatility. The long condor allows you to take advantage of these potential situations while offering the investor a fully hedged position. Breakeven – the strategy has two breakeven points. The lower breakeven is found by adding the debit to the lowest strike. The upper breakeven is found by subtracting the debit from the highest strike.
Max Gain: Gains are made for all stock prices between the breakeven points. The maximum gain is the difference between the first two strikes minus the debit.
Max Loss: Losses result for all stock prices below the lower breakeven and above the upper breakeven. The maximum loss is the debit paid for the strategy and occurs if the stock closes below the lowest strike, or rises above the highest strike.
Key Concepts: The Long Condor is an ideal strategy for premium collectors who seek to minimize potential losses in the event the stock moves adversely. This strategy can also take advantage of expected decreases in volatility. The strategy can be broken down and viewed as two trades: In the case of a traditional condor (using all calls or all puts), the position can be broken down into two opposing vertical spreads, one long and one short. In the case of an Iron Condor, the position can be broken down to a short strangle surrounded by a Long Strangle. Condors are best entered into with longer-dated options.
Example: Buy one $45 call, sell one $50 call, sell one $55 call, buy one $60 call for a net debit of $3. The lower breakeven point is $48, and the upper breakeven is $57. If the stock price stays between these two breakeven points, gains will be made. The maximum gain is $2, which is found by considering the $5 difference in the first two strikes ($50 – $45) and subtracting that from the $3 debit. The maximum gain is obtained if the stock price closes between the two center strikes of $50 and $55 at expiration. The maximum loss is the $3 paid for the position and will occur if the stock closes below $45 or above $60.