Long Butterfly Example
A trader, Kathleen, has been studying United Parcel Service (UPS), which
is trading at around $70.65. She believes UPS will trade sideways until July
expiration. Kathleen buys the July 65–70–75 butterfly for 2.00. She
executes the following legs:
Kathleen looks at her trade as two vertical spreads, the 65–70 bull (debit)
call spread and the 70–75 bear (credit) call spread. Intuitively, she would
want UPS to be at or above $70 at expiration for her bull call spread to have
maximum value. But she has the seemingly conflicting goal of also wanting
UPS to be at or below $70 to get the most from her 70–75 bear call spread.
The ideal price for the stock to be trading at expiration in this example is
right at $70 per share—the best of both worlds. The at-expiration diagram,
Exhibit 10.1 , shows the profit or loss of all possible outcomes at expiration.
EXHIBIT 10.1 UPS 65–70–75 butterfly.
If the price of UPS shares declines below $65 at expiration, all these calls
will expire. The entire 2.00 spent on the trade will be lost. If UPS is above
$65 at expiration, the 65 call will be ITM and will be exercised. The call