Construction: The Short Condor is the opposite trade of the Long Condor, so the strategy is constructed in exactly the opposite way. It can be constructed using all calls or all puts, but all options must have the same expiration date. Using calls, you sell one call at one strike, buy a call at a higher strike, buy one call at yet a higher strike, and then sell one call at an even higher strike. Generally, all strikes are equally spaced, but other constructions can be used. The trade always results in a credit. In the case of an Iron Condor, buy a strangle while selling a strangle around it.
Function: Directional, but limited play whether the stock rises or falls. Also functions as a long volatility play.
Bias: Bullish or bearish, but limited.
When to Use: When you feel the stock will trade away from a range between two center strikes but not aggressively. Also used if you feel the stock has a likelihood of an increase in implied volatility. The Short Condor allows you to take advantage of these potential situations with a hedged position.
Breakeven: The strategy shares the same two breakeven points as the Long Condor. The lower breakeven is found by adding the credit to the lowest strike. The upper breakeven is found by subtracting the credit from the highest strike.
Max Gain: Gains are made if the stock price falls below the lower breakeven or rises above the upper breakeven. The maximum gain is the initial credit received and is realized if the stock falls below the lowest strike or rises above the highest strike. The trade will also be profitable in the event of increasing implied volatility.
Max Loss: Losses are realized if the stock price stays between the two breakeven points. The maximum loss is limited to the difference of the first two strikes and subtracting the initial credit, and occurs if the stock stays between the two long center strikes.
Key Concepts: The Short Condor is an ideal strategy for long volatility players who seek to minimize potential losses in the event the stock moves adversely. The strategy can be broken down viewed as two trades: In the case of a traditional Short Condor, the position can be broken down into two opposing vertical spreads, one long, and one short. The Iron Condor can be broken down to a long interior strangle surrounded by a short exterior strangle. Short Condors are best entered into longer-dated months.
Example: Sell one $45 call, buy one $50 call, buy one $55 call, sell one $60 call for a net credit of $2. The lower breakeven point is $48, and the upper breakeven is $57. If the stock price stays between these two breakeven points, losses will be made. The maximum loss is found by considering the $5 difference in the first two strikes ($45 and $50) and subtracting that from the $2 credit. The maximum gain is the $2 credit and occurs if the stock closes below $45 or above $60 at expiration.