I believe Apple is destined to head back to $700 or even above very soon. But boy look at those option chains, so expensive.

What a perfect time for a butterfly option.

What are butterfly options? Well let me give you an example.

Buy 1 – $10 Call @ expiration date ($-1.79)
Sell 2 – $12 Call @ expiration date ($1.86)
Buy 1 – $14 call @ expiration date ($-.25)

Net Cost: $.18 per “butterfly option contract.”

Now think about this, if the stock finishes at $12, the $12 call you sold and the $14 call you bought is worthless, but your $10 call is worth $2.00 and you only paid a net price of $.18. That means you made $2.00 / $.18 = 1011% return minus commissions.

Why Buy that last $14 contract?

If the stock finishes at $14 a share, you are even (Your $10 is worth $4 and the 2 $12 calls are worth -$4). If the stock continues to go up, the $14 will cover the rest (result is break even)

So what butterfly option did I buy on Apple (Symbol AAPL)?

Bought 1 Call at $670 expiration Oct 2012
Sold 2 Calls at $700 expiration Oct 2012
Bought $1 call at $730 expiration Oct 2012

Net cost? $7.20 per butterfly option contract.

Translation:

If the stock finished at $700 I would walk with a cool $3,000 on my $720 (316% return).

Doesn’t have to finish exact at $700 either. If the stock finished $10 above or below $700, I would still make $2000 on my $730.

Where is my break even?

$677.20 or $722.80. Anything closer to $700 is all gravy.

Why not just buy a $670 call?

Because I think it will end somewhere around $700 (and if it does I get a much larger return by only spending $730 upfront vs $2500). Not to mention if it goes down instead, I’m out less than 1/3 of the money.

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Filed under: Butterfly OptionsInvestingOptions

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