You can use them to make money when stocks are going up or down.
They can make you steady income or huge windfall gains.
For instance, you can use the bull put spread I showed you to dominate minor upward market moves.
And when the market is edging down, remember the bear call spread we talked about.
Both of these strategies are great to use when wanting to further leverage your cost of an option trade beyond buying calls or puts.
But there’s one thing we haven’t talked about yet: how to play a flat market.
You can use this strategy to make money when no one else is.
It’s called the “iron condor,” and here’s how it works.
How to Build Your Iron Condor
The “iron condor” is a non-directional options trading strategy you’d use when you expect a stock to maintain a certain price (or stay within a price range) for a specific time frame and to have relatively low volatility.
This strategy is a four-legged option trade because it’s constructed using the “two legs” of the bull put spread and the “two legs” of the bear call spread – all on one order ticket. You’ll want to discuss the commissions for this trade with your broker because the four options are all part of one trade – not four separate trades.
The construction of the iron condor is to sell an out-of-the money (OTM) put and buy an even lower OTM put. And on the same ticket, one would sell an OTM call and buy an even higher OTM call.
And the end result of this is (or should be) a net credit to your account.
Let’s take a close look at the iron condor on an options order form…
In the image above, you can see the bull put spread in the green box and the bear call spread in the red box. Remember, all of these are to be entered as one trade.
The key to making the iron condor strategy work for you is to set up your bull put spread at or below a support point while setting up your bear call spread at or below the resistance point.
You can look at spreads at different strike prices to see the different profit potential and probabilities of each one. The reason being… these spreads are using what are considered OTM options.
Here’s an example using GlaxoSmithKline Plc. (NYSE ADR: GSK), which I found while using my tools to identify stocks that are trading in a reliable channel (or sideways range).
How to Get Maximum Profits from Your Iron Condor
The iron condor strategy requires all four options “legs” expire in order to realize your maximum profit.
And in order for all four legs to expire, the stock has to stay between both of the selling strike prices. In the image above, this means that the stock must stay between the strike prices of $38 and $42. The greater the distance between the strike prices, the more credit you’ll receive for the trade – increasing the probability of your profit and limiting your maximum potential loss.
If the markets do not exercise two of the “legs” (the options), then the other two “legs” do not need to be exercised. And this means that you get to keep the credit you received when you opened the iron condor trade.
We’re going to look at the potential maximum return on the trade below. But I want to be clear that I am NOT recommending this trade to you. I’m only showing it to you for educational purposes.
As you can see above, the maximum potential return on this trade is 33% – that’s the kind of income “buy and hold” investors would kill for in this unpredictable market.
So, the next time you see the markets at a standstill, consider the iron condor. I have a feeling you won’t have to wait long.
Source: Money Morning