Butterfly Spread
A butterfly spread profits when the stock finishes at a specific price at expiration. It's a three-strike strategy with defined risk and defined reward — you pay a small debit to take a precise bet on where the stock will be.
How a Butterfly Spread Works
A call butterfly uses three strikes: you buy one lower-strike call, sell two middle-strike calls, and buy one higher-strike call. All options share the same expiration. The two middle strikes are your target — maximum profit occurs if the stock closes exactly at the middle strike at expiration.
Think of it as a bull call spread combined with a bear call spread, sharing the middle strike. The two spreads partially offset each other in cost, making the butterfly significantly cheaper than either spread alone.
Example: A stock is at $100. You buy the $95 call, sell two $100 calls, and buy the $105 call — all expiring in 30 days. If each $5-wide spread costs $2.00, you pay $2.00 + $2.00 − $4.00 (from the two short calls) = net debit of approximately $1.00 per share ($100 total). If the stock closes exactly at $100 at expiration, maximum profit is the $5 spread width minus the $1 debit = $4 per share ($400). If the stock finishes below $95 or above $105, you lose the $100 debit.
Call Butterfly vs Put Butterfly
Both achieve the same P/L profile — maximum profit at the middle strike, maximum loss if the stock moves outside the wing strikes. The difference is construction. A call butterfly uses calls for all three legs. A put butterfly uses puts. Due to put-call parity, they should be priced nearly identically. In practice, traders choose whichever is more liquid or has a tighter spread on the specific underlying.
Maximum Profit, Maximum Loss, and Breakeven
Maximum profit: (Spread width − net debit) × 100. In the example: ($5 − $1) × 100 = $400. Occurs only when the stock closes exactly at the middle strike.
Maximum loss: The net debit paid. In the example, $100. This is the most you can lose regardless of where the stock goes.
Breakeven points: Two of them. Lower: lower strike plus net debit ($95 + $1 = $96). Upper: upper strike minus net debit ($105 − $1 = $104).
Butterfly vs Iron Butterfly
A call (or put) butterfly uses only calls (or only puts). An iron butterfly mixes calls and puts — you sell both an ATM call and put, and buy protective wings on each side. The iron butterfly is usually entered for a credit (you receive premium). The call or put butterfly is entered for a debit (you pay premium). Both have the tent-shaped P/L profile with maximum gain at the middle strike, but they're structured differently and can have different tax treatment.
When to Use a Butterfly
You have a precise price target. The butterfly is most efficient when you believe the stock will land near a specific strike at expiration — earnings mean-reversion plays, price targets from technical analysis, or anticipated post-catalyst settling are common setups.
Implied volatility is low. The butterfly is a debit strategy, so cheap options reduce your cost and improve the reward-to-risk ratio. Buying butterflies during low IV avoids overpaying for the long legs.
You want defined risk with high leverage. The butterfly can return 4:1 or better on the debit paid if the stock lands at the target. Few strategies offer that ratio with fully defined maximum loss.
Frequently Asked Questions
Do all three strikes need to be equally spaced?
In a standard butterfly, yes — the middle strike is equidistant from the two outer strikes. Asymmetric or "broken-wing" butterflies use unequal spacing to shift the risk/reward profile, often reducing or eliminating the loss on one side at the cost of reducing maximum profit.
How do I close a butterfly before expiration?
Sell all three legs simultaneously — sell the two long options and buy back the two short options. Many platforms allow multi-leg closing orders. A butterfly that's increased in value early (the stock has moved toward your target) can often be closed for 50–75% of max profit without waiting for expiration.
What's the main disadvantage of a butterfly?
Precision requirement. The maximum profit zone is narrow — typically just a few dollars wide on a $100 stock. If the stock moves even slightly past your wing strikes in either direction, you lose the full debit. You're making a specific bet on location, not just direction.