Question

Explain how to build a short put condor, what are the purposes of a short put condor strategy? Build a real life short put condor for an American traded stock of your choice, pull the options contracts and paste them on the answer. Please explain each part of it, what the credit or debit will be for the transaction, include every detail of each option contract you will use to build the short put condor trade.

Answer 1

A short condor strategy is used when the underlying asset is expected to move sharply either up or down (the direction is not important but the move and size of the move are more important). It is useful in volatile markets where the trader is unsure of the direction but is convinved that a possible break out is coming. The steps involved in a short put condor would be :

• It involves 4 option strike - 2 are bought and 2 are sold. All puts have same expiration date and are equidistant
• We take the example of Apple stock - current price 190.32 and we take puts expiring Aug 03, 2018. If the expectation is that the Apple stock will move sharply either above 195 or fall below 187.5, then the following can be done with the put options:
  • Sell 1 lot 195 put for 6.14
  • Buy 1 lot 192.5 for 4.67
  • Buy 1 lot 190 for 3.46
  • Sell 1 lot 187.5 for 2.50
• Net cash flow : (6.14 -4.67-3.46+2.50) * 100 = 51
• The maximum profit is the upfront cash flows received (less the commissions & brokerage as applicable). If the stock price closes above the highest strike 195, then all the options expire worthless and the upfront received 51 is the profit
• If the stock price closes below 187.5, then all the options get exercised but the resultant value will be zero (since the options are equidistant and they are placed in such a way that the profit on two options will cancel loss on other 2). Hence the profit still remains at 51 less commissions.
• The maximum loss will be if the Apple stock does not move beyond the outside bound options but is within the inside two options . Max loss = difference between strike prices (2.5 in this case) - the upfront credit received (0.51) (plus commissions).