Iron Condors vs. Condors

CBF raises a good point:

What is the benefit of selling** iron condors (bull put spread/bear call spread) over buying condors (bear spread/bull spread – puts or calls, but not both)? The profit/loss graphs of the IC and the condor are identical. Clearly, with the IC the cash remains in your account and is increased by the premium collected rather than paying for the condor and collecting a profit (hopefully) later on, but the interest earned on the funds is, at least presently, negligible. Also, it appears that there might be a slightly greater premium for an IC over a condor, but I don't have enough of a statistical sample to draw that conclusion.

So, why are iron condors so popular while non-iron condors are rarely mentioned?



If a 10-point condor can be bought for a $7 debit, then the iron condor can be bought for a net credit of $3 (a little less when interest rates are high enough for the cost of carry to be affected).


1) It's true that iron condors receive a great deal of attention.  One big reason for that: it's the strategy of choice for hypesters who want people, who know nothing about options, to pay them to manage a portfolio of iron condors.  Money management is a profitable business, as the managers keep 20% of all profits with no risk of loss.  Of course one must be licensed to manage other people's money and I have no idea whether that rule is obeyed.

Others offer to sell trade recommendations to newbies for far more cash than the information is worth.   Ads that promise to 'generate a steady monthly income.' and trade with a success rate of between 80 and 95% attract suckers customers.  It all sounds so attractive and the messages come with a hard sell that apparently works. I have no idea how many people pay high fees to have someone recommend iron condor trades, but there are plenty of them.  Some of these people run a legitimate business.  They are careful in choosing their trades and manage risk with skill.  But it's difficult to know whom you are hiring when you go that route.

There are (or at least were) a bunch of hedge funds that charged hefty management fees to trade an iron condor portfolio.

Then there are brokers (thinkorswim comes to mind) who encourage the use of iron condors.  Don't get me wrong, there's nothing wrong with that.  I also encourage their use, as long as it's accompanied with careful risk management.

2) The reason these strategies have the same risk graph is that the positions are equivalent.  Assuming options are priced efficiently, as they are almost all the time, there is no 'real' advantage to trade an iron condor rather than a condor.

But, there is a psychological advantage, and my guess is that's the reason iron condors are far more popular.  It's just 'fun' to sell premium and watch the price of those options fade away.

3) **The condor and iron condor are equivalent.  If one buys the condor – as in your example, then (to me and a number of brokerage houses) the equivalent position is also a 'buy.'  Thus, buying an IC is equivalent to buying a condor, and, I use the verb 'to buy' when opening an iron condor position.  Others believe that collecting cash means, by definition, that you are selling the IC.  There is no commissioner of nomenclature, so this disagreement goes on.

You refer to the 'bull call spread.'  Yes that is the spread being sold.  I believe using the term bull and bear are not only unnecessary, but adds confusion.  The call spread, by definition, is buying the lower strike (more valuable) option.  Thus, you either buy or sell the call spread.  Why get the issue confused by having to think about the difference between buying a bull call spread and buying a bear call spread?  There is no need to define it as bullish or bearish – it's just a call spread.

Likewise, buying the put spread refers to buying the more costly put option.  When buying an iron condor, you sell both the call spread and the put spread.  Once again, this is not universally accepted.

4) Options tend to be priced efficiently and that means there should never be an advantage to buying either position.  But sometimes one of the options is mispriced (probably because an individual investor is trying to buy or sell a few contracts), and there could be an edge in the pricing of a condor compared with an iron condor.


15 Responses to Iron Condors vs. Condors

  1. Tyler 06/26/2009 at 8:58 AM #

    Another difference between the IC and the Condor when using American Style Options, is the IC won’t run the risk of early assignment because all short options are out-of-the-money. Because call or put condors involve entering in-the-money debit spreads, there is the risk of early assignment on the short in-the-money option (although the risk isn’t too high unless the short option is trading near parity).

  2. Mark Wolfinger 06/26/2009 at 9:09 AM #

    You make a good point – but I believe you missed a subtlety.
    Because you own the call and put spreads with a condor position, if assigned, you simply exercise your long – which is in the money by MORE than the assigned option. That immediately closes half the condor position at the maximum profit.
    Early assignments become a danger when you are short the farther ITM option. That is not the case here.
    Thus, early assignment is not a risk – it’s a bonus when you own a condor.

  3. marathonman 06/26/2009 at 9:13 AM #

    I pulled this from another post you wrote:”Looking for a potential January iron condor, in which the options I sell are two standard deviations out of the money, here’s what I find: With 44 days remaining, RUT @ 442 and RVX @ 74, I’d be forced to choose the following Jan position:”
    Forgetting the actual instrument I was very curious to see if you ever have had success (good enough profit)with a 2 standard deviation pricing? For me once I get past 1 SD pricing seems to drop exponentially and I can’t find that in real life…
    I saw that you liked 1.5 SD but I (personally) have trouble finding them as well.
    Thanks Don

  4. Mark Wolfinger 06/26/2009 at 9:41 AM #

    I no longer pay attention to SD, but don’t forget that 1.5 SD is a much smaller number than it was when IV was double or triple current levels.
    One of the problems with premium selling strategies is that the trader can become afraid of potential losses, despite the fact that the probability of making a successful trade is fairly good. No matter what else you do, it’s essential to remain within your comfort zone.
    I find it easier to stay in my zone by finding positions that just ‘feel’ right. I understand that doesn’t help you, or anyone else pick specific options to trade, but the beauty of premium selling strategies is that they are extremely flexible.
    Technicians can readily choose strike prices based on support and resistance.
    I choose by credit received and how far OTM the options are. If less confident with the trade, I trade fewer contracts. If I like it because of other factors (including how much protection I already own in the remainder of my portfolio) I increase size.
    When IV is so much lower than it was last year – then no positions looks good enough because the premium seems so low. Well – it is less than it was, but that’s because the market is perceived as less risky. And the relatively low realized volatility of recent times tells us that it’s less risky, and that it may be safer to sell premium (in other words to own positions with negative gamma).
    But, that can change overnight. If any investor is comfortable with positions at prices that are available, that’s what counts for me. No single strategy, so single set of guidelines can work in all markets.
    Be flexible, but don’t be foolish. If not comfortable, avoid the trade or cut your size significantly (if you cannot stand having no positions, then trade small).

  5. marathonman 06/26/2009 at 10:10 AM #

    Mark, That makes a lot of sense but I am not sure what you mean (and I read this in the other post as well) and I am sorry if this is obvious and I just don’t understand it.
    That in order to reduce risk you will purchase strangles. Why does this reduce risk? Is it strictly a matter or greeks?

  6. Mark Wolfinger 06/26/2009 at 11:20 AM #

    When you buy options, you are buying positive gamma.
    When you buy options, you have the possibility for unlimited (ok, not literally unlimited, but BIG) gains.
    If you own iron 20 iron condors and each each loses a maximum of $800 (10-point spread, bought for $200 credit), then you can lose no more than $16,000.
    If you buy extra options – and if very bad things happen to your iron condor position, something good is happening to the extra options that you own. Even an extra one-lot (in RUT for example) can easily earn $5,000 on a 10% move. And when the markets are moving in big chunks, they can easily earn much more.
    Can’t you see how that offsets risk? It’s not just the Greeks, it’s understanding how options work. It’s the very basis of option trading. Selling naked short options is dangerous. Owning options can pay huge rewards.
    But please, please – do not get the wrong message. I do NOT encourage anyone to try to make money in the option markets by buying options. It’s just too difficult to succeed. But when buying extra options as an insurance policy – that’s completely different. That’s not looking to earn a profit when buying the insurance. as with all insurance, you hope it expires worthless.
    If you do this, be certain to buy the right options. DO NOT buy options that are further OTM than the options you already own. In fact, I recommend that you buy options that are closer to the money than the options you sold. Yes, they are costly, but if needed, you will be glad you own them.

  7. There’s one other small difference that, depending on your broker, can actually be important. When you sell an iron condor, you pay commissions for four legs times however many iron condor spreads you set up (the scheduling varies from broker to broker, but you will generally at least pay something around the price of four or more contracts). Then, if all goes well, all of the options expire out of the money and no further adjustment is needed. With a condor position, you’re paying a debit, which means ultimately, if all goes well, you will sell the condor to collect your profits. While good risk management would have you buying back the IC at some point comfortable to you to lock in the profits, the point is that it isn’t necessary to do so–time will eventually lock it in for you. The regular condor requires you to make another transaction eventually, resulting in another set of commissions, which eats into your profit. All other things being equal, even negligible commissions tip the scale in favor of the IC.
    — Jacob

  8. Mark Wolfinger 06/26/2009 at 12:24 PM #

    Thanks. Yes, every possible expense must be considered. And I confess – I do not take the time to see if I can get a better price for the condor (enough better to pay any extra costs that I may incur later) than for the iron condor.
    I trade the iron condor for it’s simplicity. But along the lines of your thinking, when I want to take a profit on a low-priced call or put spread, rather than hold until expiration, it’s a lot easier to buy those spreads for 25 cents than it is to get someone to pay $9.75 for the synthetic equivalent.

  9. Tyler 06/26/2009 at 12:51 PM #

    I did miss that subtlety. Thanks for the clarification.

  10. marathonman 06/26/2009 at 1:01 PM #

    Mark, thanks…so let me restate this so that I understand a general out look re:insurance, risk management etc as you view them.
    RUT at 500 550/560 and 450/440 Set up Credit about 3.00/contract
    10 contracts Max loss 7000
    IF…you feel that your position is becoming vulnerable one of the risk management choice is to buy at least 1 (OR do you buy this at the inception of the IC) (either/or both) –a NEARER to the money put or call (both?) at “X” amount of dollars (or 2X) if you buy the Put AND the call.
    This would alleviate some of the loss as the trend moves towards your IC- I know that you have many other risk management stratagies but just focusing on this one…

  11. Mark Wolfinger 06/26/2009 at 1:42 PM #

    1) Sometimes I buy insurance at the same time that I open the iron condors.
    I do that only if my portfolio is too risky – based on everything I own, not based on only the newly opened IC.
    2) If I feel the options I want to buy for insurance are cheap – that means a low IV – I buy at least one or two, just to get started. I do that, even when I don’t really need any insurance.
    3) Waiting to buy insurance until it is needed is a mixed bag.
    On the one hand, you may never need to buy it. That saves the entire cost of insurance and allows you to exit the iron condor with no concern over the fact that the insurance play may have cost part of your profits.
    But, if you wait to buy insurance until it’s needed, it will cost more – because of the price of the underlying asset has changed. The option you want to buy is now nearer to the money than it was before, and that makes it cost more. But time has passed, and that reduces the cost.
    The advantage of waiting is obvious. It avoids buying insurance. It makes it easier to take your profits. But it offers no protection against an overnight black swan event. And that’s the real reason why I want to own insurance. The preventable disaster.
    You have to figure out if insurance is worth owning, how long your are willing to wait before buying it, and how much to pay. There is no single ‘best’ answer.
    When buying insurance, the dollar cost is important. Pay too much and you may have no chance to make any money. Buy nothing and you have added risk. Just another compromise.
    There is no substitute for experience here. Make a reasonable guess, then see how comfortable it leaves you. DO NOT base your final judgment on the results. What counts is making a good decision when it’s time to buy – or not buy – insurance.
    With your 10-lot position I would like to own 2 or 3 of the 530 calls and the 470 puts.

  12. marathonman 06/26/2009 at 2:06 PM #

    Thanks Mark…looking at that as an insurance policy I can figure how profit of any decent kind is made. If you set up the IC from above at 3000 potential profit and then buy 4-6 puts/calls for insurance simply by being closer to the RUT price they are more expensive I think to the point of taking your potential 3,000 down under 500.
    Very little risk but reward greatly diminishes don’t you think?

  13. Mark Wolfinger 06/26/2009 at 2:26 PM #

    Yes, if reward is that little, it does not pay to play.
    But, there is one scenario that will occur at least part of the time, and you cannot dismiss it’s value.
    Sometimes, as expiration is approaching, the options you bought as insurance will be slightly ITM and trading at significantly higher price than you paid for them. Of course under these conditions the iron condor is near enough to being ITM to cause some concern. But there are going to be times when you can sell the insurance for more than you paid and close the IC at a profit. I don’t know how to estimate the value of this, but it’s above zero. Thus, it gives added value to owning that position.
    If buying 4-6 is too expensive, then buy fewer.
    Don, there is no perfect answer. Maybe for you the best answer is to trade fewer iron condors. That gives you less risk and less to worry about. Then, if risk is at an acceptable level, you will have no reason to buy any insurance.
    You cannot have high profits and low risk. They do not go together. The purpose of trading with options is to establish a position with an acceptable level of risk and an acceptable possible reward – and consider that to be an investment. And with options, risk can readily be managed. You will not profit all the time. That’s no different from other types of investing.
    But if you want to trade more size, and the risk becomes too large, that’s just not smart. That’s the right time for insurance.

  14. marathonman 06/26/2009 at 2:47 PM #

    Mark…Geez you are right on the money, of course I was factoring in a value of -0- for the insurance. You may minimize your upfront credit but either you have a profitable IC with remaining value in the insurance purchases or your position has moved into the intolerable risk zone and you are grateful that you own the insurance positions at the lower cost.
    Thanks for your insights

  15. Mark Wolfinger 06/26/2009 at 2:56 PM #

    Thank you for the conversation.