Megacap tech names like Apple remain one of the strongest areas in a back-and-forth market. With indecision ruling the day, a neutral option strategy starts to look more attractive. Here's how to set up a butterfly option trade in Apple stock. It has limited profit but also limited risk — and like a typical butterfly trade, the profit potential is higher than the potential loss.
What Is A Butterfly Spread?
A butterfly spread involves three different option strike prices, all with the same expiration date. It can be created using either calls or puts. In the center, you have two short options, and then on either side a long option at strikes equidistant from the short strike.
With Apple stock trading around 172, here's how to set up the butterfly option trade:
- Buy one Oct. 20, 170 call at 5.25.
- Sell two Oct. 20, 175 call at 2.50.
- Buy one Oct. 20, 180 call at 0.90.
The total cost of this trade is $115. That's also the maximum loss potential for the trade.
The maximum gain is $385 if Apple stock finishes right at the center strike of 175 at expiration. In that case, the 175 short call and the 180 long call would expire worthless. The remaining 170 long call would be left with 5 points of value less the 1.15 premium paid for a 3.85 profit.
Managing The Apple Stock Butterfly
The break-even prices are when Apple stock crosses below 171.15 or above 178.85 (the lower strike plus the premium and upper strike minus the premium).
A butterfly option trade has a tentlike shape, with the potential for very large profits around the short strike. It's important to keep in mind that it's unlikely you would ever achieve the maximum profit.
A good aim for a butterfly trade is to make a 20% return on capital at risk. Exiting the trade at 1.38 achieves that goal.
According to IBD Stock Checkup, Apple stock ranks No. 2 in its group. The megacap has a Composite Rating of 75, an EPS Rating of 86 and a Relative Strength Rating of 82.
Please remember that options are risky, and investors can lose 100% of their investment.
This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
Please remember that options are risky, and investors can lose 100% of their investment.
Gavin McMaster has a Masters in Applied Finance and Investment. He specializes in income trading using options, is very conservative in his style and believes patience in waiting for the best setups is the key to successful trading. Follow him on Twitter at @OptiontradinIQ
