The short condor is a strategy very similar to the short butterfly. It is a limited risk, limited profit trading strategy that is structured to earn a profit when the underlying stock is perceived to be making a sharp move in either direction. Using calls, the options trader can setup a short condor by combining a bear call spread and a bull call spread. The trader enters a short call condor by buying a lower strike in-the-money call, selling an even lower striking in-the-money call, buying a higher strike out-of-the-money call and selling another even higher striking out-of-the-money call. A total of 4 legs are involved in this trading strategy and a net credit is received on entering the trade.
Limited Profit Potential
The maximum possible profit for a short condor is equal to the initial credit received upon entering the trade. It happens when the underlying stock price on expiration date is at or below the lowest strike price and also occurs when the stock price is at or above the highest strike price of all the options involved.
The formula for calculating maximum profit is given below:
- Max Profit = Net Premium Received – Commissions Paid
- Max Profit Achieved When Price of Underlying <= Strike Price of Lower Strike Short Call OR Price of Underlying >= Strike Price of Higher Strike Short Call
Limited Risk
Maximum loss is suffered when the underlying stock price falls between the 2 middle strikes at expiration. It can be derived that the maximum loss is equal to the difference in strike prices of the 2 lower striking calls less the initial credit taken to enter the trade.
The formula for calculating maximum loss is given below:
- Max Loss = Strike Price of Lower Strike Long Call – Strike Price of Lower Strike Short Call – Net Premium Received + Commissions Paid
- Max Loss Occurs When Price of Underlying is in between the Strike Prices of the 2 Long Calls
