GE Butterfly

Last December I posted a number studies using a butterfly spread to generate a low risk income stream. The XLU example was one of the cleanest, but the original XLE butterfly case study generated a great R/R for several months.

The underlying strategy is that you risk a limited fixed amount in order to target a substantially larger return based on the price of the stock or ETF staying within a relatively narrow range.

After the March to present surge, we may be looking at a consolidation period before the markets move higher/lower (pick one). In such a scenario, playing a few butterflies can generate a few bucks with not a lot of exposure.

Here are 4 possible setups using GE puts ...2 for June and 2 for July. This is just to show the range of possibilities and is not intended as a recommendation.

I like to use the LR30 (30 period linear regression channel) to gauge possible price range for the upcoming month and that channel is shown in orange on the GE price chart above. The common practice is to look for a level LR30, but an equally productive tactic is to simply look at the slope of the channel and gauge the likely range of the price 30 days out. I often combine a LR30 view with an LR75 (not shown) view to step back and get a larger risk management view.

Many brokers, including Schwab, let you trade a butterfly (a 3 legged trade) for a single commission, and although there may be a few pennies in slippage, that's usually more economical than 3 separate entries. I typically enter these are limit orders at a par value (midway between the bid and ask) and let the market makers come to me. That works most of the time unless momentum is trending rapidly intraday.