Options Trade of the Day: A MasterCard Short Butterfly Spread


Shutterstock photo

MA announced this morning put buying on the International Securities Exchange (ISE)

A look at MA's technical backdrop reveals a potential driver for this growing pessimism for the security, as the stock is in danger of creating a double-top formation in the $255-$256 region. A resolution of this pattern could send MA sharply lower. On the other hand, a breakout above this area of technical resistance could clear the way for MA to extend its rebound off its September lows near $190.

Chart MA option volume details

It is possible that a similar line of reasoning drove some unusual options activity on MA this morning, as one speculative options trader eschewed the popular puts in favor of a call-oriented strategy. Specifically, a block of 140 December 260 calls traded on the Chicago Board Options Exchange ( CBOE ) at about 9:53 a.m. Eastern time for the ask price of $1.21, or $1221 per contract.

At the same time, 70 contracts traded on the December 250 call for the bid price of $4.20, or $420 per contract, and 70 contracts traded on the December 270 call for the bid price of $0.22, or $22 per contract. Given this data, it would appear that we are looking at a short butterfly spread on MasterCard.

MA option volume details

The Anatomy of a MasterCard Short Butterfly Spread

Getting down to business, the trade breaks down like this: The trader received a credit of $29,400 for selling 70 December 250 calls -- ($4.20 * 100)* 70 = $29,400 -- and $1,540 for selling 70 December 270 calls -- ($0.22 * 100)* 70 = $1,540. Meanwhile, the trader incurred a debit of $16,940 for buying 140 December 260 calls -- ($1.21 * 100)* 140 = $16,940. As a result, the position results in a total credit of $14,000 -- ($29,400 + $1,540) - $16,940 = $14,000.

MA butterfly spread breakdown

But, how does one profit from this situation? Normally when trading call options, the trader needs the stock to rally. However, since the trader sold the December 250 and 270 calls, this complicates the position beyond a normal "rally = profit" situation.

For the record, a short butterfly spread trader is looking for the stock to move sharply; direction doesn't matter. Those of you who are familiar with straddles and strangles will also be familiar with the need for a sharp, direction-doesn't-matter move. This is where the similarities between straddles/strangles and short butterflies end, however; a short butterfly uses only calls (or puts, but never both), is opened with a credit (not a debit), and has a maximum profit equal to the credit received upon entering the trade.

The short butterfly has two breakeven points. The first breakeven point for today's MA trade is found by adding the premium received ($2.00) to the sold December 250 call: 250 + 2.00 = $252. The second breakeven point is arrived at by subtracting the premium received ($2.00) from the sold December 270 call: 270 - 2.00 = $268.

The maximum gain is equal to the total premium received -- $14,000. The maximum loss, in the event that the shares were to get pinned at the purchased strike, is limited to the difference between the December 250 and 260 calls, minus the net credit received: (260 - 250) - 2.00 = $8.00.

MA short butterfly spread profit/loss chart

Implied Volatility

After the short butterfly position has been established, increasing implied volatility is neutral to the overall position, as it lifts the price of both the sold and purchased options. At the time of the trade, implieds for the December 250 call were 28.68%, the implied volatility for the December 260 call was 29.68%, and the implieds for the December 270 call came in at 29.67%. MA's one-month historical volatility was perched at 33.28% as of the close of trading on Wednesday.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

All Rights Reserved. Unauthorized reproduction of any SIR publication is strictly prohibited.

This article appears in: Investing Options
Referenced Stocks: CBOE , MA

More from Schaeffer's Investment Research


Schaeffer's Investment Research

Schaeffer's Investment Research

Follow on:

Find a Credit Card

Select a credit card product by:
Select an offer:
Data Provided by BankRate.com