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Investors are often looking for more ways to make their money grow. Therefore a trading strategy which allows them to stretch their investment capital is definitely right up their alley. What this particular strategy calls for is two credit spreads (one bull and one bear) to be written on the basis of one asset. This asset could be in the form of a stock or an index.
The strategy employed is named the Iron Condor Spread. By combining a bull put spread and a bear call spread, a trader is able to take advantage of the technicality of options trading and therefore only required to provide capital for only one of the spreads.
To further illustrate this strategy, let’s assume the underlying asset is SPX (an index) and it is trading at 1100. If a trader were to enter into a bull put spread of 1070/1060 with a premium collection of $1, the amount required to fulfill the investment capital is $900 for each contract. The investment capital per contract is calculated by the spread between the strike prices subtracting the total premium received. The calculations are demonstrated as follows
Difference between strike price = $(1070-1060) = $10
Premium = $1
Investment capital per contract
= $(Difference between strike price – Premium) x 1 contract x 100 units per contract
= $(10-1) x 1 contract x 100 units
= $900
Then suppose the trader wanted to enter a bear call spread of 1120/1130 for the same asset (which is SPX) for a premium of $1.20. Under usual circumstances, the trader would be required to fork an extra $880 in order to enter this spread. However, since it is impossible for the SPX to be at 1070 and 1120 simultaneously, the trader can only lose one of his trades. Naturally, this affords the trader a margin relief.
This very relief means that two contracts can be written on the asset for the same amount of $900. That would be killing two birds (or condors) with one stone, one might say.
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