Broken Heart Butterfly: A Versatile Options Strategy
Options trading presents investors with a diverse range of strategies, each with its unique risk and reward profile. Among these strategies, the Broken Heart Butterfly has gained popularity as a high-probability trade with an intriguing name.
Let's delve into the mechanics of this strategy, its advantages, and how it compares to its counterpart—the Broken Wing Butterfly.
The Broken Heart Butterfly: A Familiar Strategy with a Tweak
The Broken Heart Butterfly is a variation of the Broken Wing Butterfly, which in turn is a variation of the traditional Butterfly options trade.
While the strategy has been practiced by traders for years, the term "Broken Heart Butterfly" was popularized by tastylive in the last quarter of 2020. At its core, this strategy involves a credit spread hedged by a debit spread (or vice versa), creating an asymmetric risk-reward profile.
Crafting the Broken Heart Butterfly: A Step-by-Step Guide
The Broken Heart Butterfly comes to life when traders construct an options spread with the following key components:
Bullish Scenarios (Put Side):
An out-of-money bull put spread representing the credit spread component.
A bear put spread placed closer to the money, acting as the debit spread hedge.
The hedge spread is smaller (strikes closer together) to ensure an overall credit for the trade.
Bearish Scenarios (Call Side):
A long call spread representing the debit spread component.
A short call spread moved further out-of-the-money, acting as the credit spread component.
The short spread is wide enough to finance the long spread and provide a slight credit.
These components allow traders to benefit from time decay while managing risk in uncertain markets.
Broken Heart vs. Broken Wing: Weighing the Trade-offs
The Broken Wing Butterfly is a special case where the two short strikes coincide, creating a narrower profit zone. In contrast, the Broken Heart Butterfly splits the short strikes apart, resulting in:
A wider range of profit and higher probability of success.
A lower credit upfront due to the disconnection of the credit and debit spreads.
Better adaptability to market conditions and investor preferences.
While the Broken Wing Butterfly boasts a higher credit, the Broken Heart Butterfly's flexibility makes it a compelling choice for traders seeking higher probabilities.
Practical Insights for Successful Implementation
To make the most of the Broken Heart Butterfly, traders should consider the following tips:
The strategy is ideal for scenarios with directional uncertainty and a desire for downside or upside protection.
The rapid time decay in the last few days of weeklies can lead to significant profits.
Traders should be cautious of overnight gaps that may impact profitability.
Harnessing the Power of the Broken Heart Butterfly
The Broken Heart Butterfly is more than just an option strategy with an evocative name—it's a versatile tool that empowers traders to confidently navigate volatile markets.
Whether employed in bullish or bearish scenarios, this strategy offers a blend of risk management and high probability, making it a valuable addition to any trader's repertoire.
So, the next time you find yourself contemplating market uncertainties, consider embracing the Broken Heart Butterfly—a strategy that just might mend your trading heart.
Tastytrade Disclosure
tastytrade, Inc. (“tastytrade”) has entered into a Marketing Agreement with Marketing Agent (“HaiKhuu LLC.”) whereby tastytrade pays compensation to HaiKhuu LLC. to recommend tastytrade’s brokerage services. The existence of this Marketing Agreement should not be deemed as an endorsement or recommendation of HaiKhuu LLC. by tastytrade and/or any of its affiliated companies. Neither tastytrade nor any of its affiliated companies is responsible for the privacy practices of HaiKhuu LLC. or this website. tastytrade does not warrant the accuracy or content of the products or services offered by HaiKhuu LLC. or this website. HaiKhuu LLC. is independent and is not an affiliate of tastytrade.
tastytrade was previously known as
