This strategy should ideally be initiated on stocks where implied volatility is on the higher side — typically above 90. For trading large quantities, one should also check if stock options are relatively liquid and be careful while executing the trade. Similarly, when a company’s quarterly performance is below the Street’s expectations, its share price falls. These are very logical, sound, and practical situations. The catch is: what happens when the markets pre-empt the quarterly financial performance of a company and as a result, its share price is range bound? This may seem like a difficult situation for novice traders, but not for savvy traders. Savvy traders follow an interesting strategy that works when the share price moves in a narrow range after its results. It is called Iron Condor.
Here, one sells a near-money call option and buys an out-of-the-money call option of the same expiry. At the same time, one sells a near-money put option and buys an out-of-the-money put option of the same expiry. All four transactions need to be done simultaneously.
Let us understand this with an example:
STOCK CMP = Rs 980
Sell put with an exercise price of Rs 940 at a premium of Rs 1.35
Buy put with an exercise price of Rs 920 at a premium of Rs 0.50
Sell call with an exercise price of Rs 1020 at a premium of Rs 1.80
Buy call with an exercise price of Rs 1040 at a premium of Rs 0.95
Here if the price of a stock remains unchanged or remains in a narrow range (between Rs 940 and Rs 1020) at the time of expiry, then a trader makes a maximum profit of Rs 1,062. But if the stock goes below Rs 920 or above Rs 1,040, then the trader sees a maximum loss of Rs 11,438.
This strategy should ideally be initiated on stocks where implied volatility is on the higher side — typically above 90. For trading large quantities, one should also check if stock options are relatively liquid and be careful while executing the trade.
