Choosing Correct Condors: 7 Steps to Profitable Iron Condors

If you are new to options trading, you might not have heard of the iron condor. The iron condor is an options trading strategy that utilizes four different positions. The strategy is call an condor because it has a very wide, relatively low region of profitability and then two lower wings of losses going away from the stock price.

Iron Condor profit and loss graph

So let’s look a little bit at how an iron condor is constructed. Like I said before, it’s composed of four positions: two puts and two calls. The lowest strike put is bought to open. The inner strike put is sold to open. The inner strike call is also sold to open. And then the highest strike call is bought to open.

You might recognize this as being two vertical spreads at the same time.

These are credit spreads. The best outcome is if the stock stays between the inner call and the inner put through expiration.

So that’s a typical iron condor. The key factors that will differentiate success and failure is your choice of dates and your choice of strikes. Most traders are far too aggressive in this area. This causes them to lose money. This guide is your step-by-step method to minimize losses as much is possible. And that means your gains should be consistent and predictable. After all, this is

Without further ado, here’s the CCC Method (Choosing Correct Condors):

Step One: Choose the Appropriate Security to Trade

For a condor, we want a security that has a little bit of volatility to it, but not too much. The small indices like the Russell 2000 are perfect. The 2000 stocks averaged together mitigate the higher volatility of the small stocks. So we end up with a nice middle ground of volatility. This gives us a nice bit of premium without going overboard on the risk.

Step Two: Choose the Correct Date

While it is true that time value decays fastest the closer you are to expiration, for these positions the risk reward trade-off just isn’t there. We want to go out farther in time, usually about three months. So if you are looking to open a trade in July, then you would be looking at the October options.

Step Three: Choose the Proper Short Put Strike

We want to choose a put that has a delta of about .08 or .09. Any higher than that, and you’ll be risking too much to volatility.

Step Four: Choose the Proper Short Call Strike

Because of the different natures of puts and calls, we can be a little bit more aggressive on the call side. Look for a call that has a delta of about .12.

Step Five: Choose the Width of Your Spreads

On the Russell 2000, typically I choose $30 spreads. The wider the spread, the fewer contracts you have to use. But on the other hand, the wider the spread, the lower your percentage premium. Like everything else, it’s a balancing act. I like the $30 spreads for the Russell, but if you’re using something else you will have to figure out that sweet spot yourself. Once you know the width of the spread, you can then select the proper long call and long put.

Step Six: Enter the Order

Because these positions have four different elements to them, the spread between the overall bid and the overall ask is usually going to be pretty wide. So you want to enter the order as a net credit with the credit premium a little bit past halfway between the bid and the ask. It should be slightly closer to the bid in order to get a quick trade execution.

Step Seven: Monitor Your Position

There are two different exit rules for an iron condor to follow. The first exit rule is if everything goes as planned. The security doesn’t go up too much, and it doesn’t go down too much. You will then buy to close the condor position when you have captured 70% to 80% of the premium. So if you sold a $4.00 credit, then you would buy it back at a $.80 to $1.00 debit.

If things do not go as planned and the volatility of the security spikes for whatever reason, then you want to close your position. If the total debit is twice as much as the credit you receive. In other words, if you sold a four dollar credit and the option spike to eight dollars, then you would close the position. After you close the position on the loss, you have the option of reentering it with new strikes following the original rules. That’s called rolling. Rolling can often turn a loss into a small profit, but watch out for transaction costs!

If you follow these seven steps, you will be able to create regular and consistent income from the stock market. And that’s really the name of the game. Swinging for the fences by buying calls is typically a losing game. In order to be successful at it, you have to be a very good chart reader and know exactly when and how far stocks are going to move.

Let’s look at an example trade that I just entered on the Russell 2000.

The Russell is currently trading at $874. I open the position using the March options with the following strikes and costs:

Iron Condor Options Details

  • $720 put, cost $2.53
  • $750 put, premium $3.94
  • $950 call, premium $2.27
  • $980 call, cost $.58

Bid x Ask when position was entered: $2.25 x $4.05
Overall premium: $3.10 (Initially entered $3.20, but didn’t get filled)
Margin used: $30
ROI: 10.3%

So I will be monitoring this position over time. If the cost to close approaches six dollars, I will be looking to roll the position. On the other hand, if it falls to $.60, then I will be looking to close the position and take my profits.

You might be saying to yourself that losing three dollars is a lot more than gaining $2.50. And you’d be right. The beauty of selecting such far out strikes is that the probability of success is very high. Over time I do much better than two wins for each loss. Typically, it’s more on the order of five wins for one loss or six wins for one loss.

Iron condor probability graph

Knowing ahead of time exactly what my exit plans are is what allows me to rest comfortably and sleep at night. I’m not in the markets to get a rush. I am simply using them as a tool to make money. If you want excitement, go to the amusement park.

* Side note: You can do a non-iron condor with all calls, but the premiums are better by using puts on the downside rather than calls.