Applies to derivative products. Complex option strategy that involves buying a call option with a relatively low strike price; buying a call option with a relatively high strike price; and selling two call options with an intermediate strike price. Essentially, this is a bear call spread stacked on top of a bull call spread. One can also do this with puts. The investor buys a put with a low strike, buys a put at high strike and sells two puts at intermediate strike price. The payoff diagram resembles the shape of a butterfly.
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An option strategy wherein one sells two options with the same strike price and buys two other options, one with a low strike and one with a high strike. The butterfly spread limits both the risk and the profit potential; it is profitable only if the price of the underlying asset remains in a relatively narrow range. One may use a butterfly spread on both calls and puts, but not on both mixed together. See also: bull spread, bear spread.
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A combination of two long and two short call options, all with the same expiration date. The two short options carry the same strike price, which is sandwiched between a higher and a lower strike price on the long options. A hypothetical example of a butterfly spread would be to sell two April GM $60 and buy an April GM $50 and an April GM $70. The butterfly spread is designed to be profitable if the price of the underlying asset remains within a narrow trading range.
Wall Street Words: An A to Z Guide to Investment Terms for Today's Investor by David L. Scott. Copyright © 2003 by Houghton Mifflin Company. Published by Houghton Mifflin Company. All rights reserved. All rights reserved.