A butterfly spread is a three-strike options strategy designed to profit if the underlying closes very near a specific price at expiry. It is constructed by buying one option at a low strike, selling two options at a middle strike, and buying one option at a high strike — all with the same expiry, all calls or all puts. The middle strike is typically the at-the-money strike.
The cost (debit) of a butterfly is small relative to its maximum profit, giving the trade an attractive risk-reward but a low probability of pinpoint accuracy. Max profit occurs if the underlying closes exactly at the middle strike. Max loss is the net debit paid.
Example 1: Nifty at 24,000. Trader buys 23,800 call for 280, sells 2 x 24,000 calls for 150 each (total 300 credit), buys 24,200 call for 70. Net debit = 280 − 300 + 70 = 50 points. Max profit = (24,000 − 23,800) − 50 = 150 if Nifty closes exactly at 24,000. The wings cap loss at the 50-point debit.
Example 2: A trader believes Reliance will pin to 2,800 by next Thursday's expiry because of heavy open-interest concentration there. They buy a 2,780 / 2,800 / 2,820 butterfly. The trade costs little and pays multiples if pinning happens, but expires worthless if Reliance closes above 2,820 or below 2,780.
Butterflies require high precision; they are sometimes called "pinning trades" because they target option-OI gravity around large strike clusters near expiry.
Variants include the iron butterfly (sell straddle + buy strangle wings, creating a credit spread instead of debit) and the broken-wing butterfly (asymmetric wings to skew the payoff).
Disclaimer: Educational content from MintByte (ARN-314872, MFD). Examples are illustrative. SEBI Investment Adviser registration is in process; we do not recommend specific options trades.