Short Albatross Spread

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Short Albatross Spread - Introduction



The Short Albatross Spread is an advanced volatile options strategy which profits when the underlying stock breaks out strongly to either topside or downside. The short albatross spread is really just a short condor spread with a wider strike difference between the two middle strike prices. The wider the strike difference, the more the underlying stock needs to move in order to profit but the higher the maximum profit and the lower the maximum loss will be.

The Short Albatross Spread belongs to a family of advanced volatile options strategies which are named after creatures with increasingly wider wingspan. They are the Short Butterfly Spread and the Short Condor Spread with the Short Butterfly covering the smallest range of strike prices.

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When To Use Short Albatross Spread?


One should use a Short Albatross Spread when one expects the price of the underlying stock to make a big breakout to either upside or downside.



How To Use Short Albatross Spread?


There are two ways to establish a Short Albatross Spread. One way is to use only call options. We call this a "Call Short Albatross Spread". The other way is to use only put options. We call that a "Put Short Albatross Spread". Either way performs the same as long as the underlying asset breaks out above or below the upper or lower breakeven points upon option expiration.

The composition of both kinds of Short Albatross Spread is the same. It involves selling to open 1 deep In The Money (ITM) option, buying to open 1 higher strike In The Money option, buying to open 1 Out of The Money (OTM) option and selling to open 1 further Out of The Money (OTM) option.

(a)Sell One Deep ITM + (b)Buy One ITM + (c)Buy One OTM + (d)Sell One Far OTM


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Establishing Call Short Albatross Spread


Veteran or experienced option traders would identify at this point that the Short Albatross Spread actually consists of an OTM Bull Call Spread and an OTM Bear Call Spread.

The choice of which strike prices to sell the short legs (trades a and d above) at depends on how far the underlying stock is expected to break. The further away from the money the 2 short legs are, the higher the resultant net credit would be. In fact, the net credit of the Short Albatross Spread could go all the way down to nearly zero as further strike prices are used. The maximum possible profit would also increase but the strike difference would also be so wide that going into profit may be difficult or nearly impossible for the short term.

Example : Assuming QQQQ trading at $43.57.

Sell To Open 1 contract of Jan $41 Call at $3.35
Buy To Open 1 contract of Jan $42 Call at $2.38
Buy To Open 1 contract of Jan $45 Call at $0.60
Sell To Open 1 contract of Jan $46 Call at $0.10

Net Credit = ($3.35 - $2.38 - $0.60 + $0.10) x 100 = $47.00 per position


In the above Call Short Albatross Spread example, we are expecting the QQQQ to exceed a price range of between $41 to $46 upon expiration, with maximum loss occuring when QQQQ is within $42 to $45.



Establishing Put Short Albatross Spread


Establishing a Put Short Albatross Spread is exactly the same as establishing a Call Short Albatross Spread except that put options are used instead. The resultant net credit and breakeven range of a Put Short Albatross Spread are theoretically the same as you would use call options in a Call Short Albatross Spread, however, in practise, Call options and Put options do not cost the same to put on. In stocks that are likely to be more bullish, its call options will be more expensive than its put options and vice versa. Therefore, a trader needs to calculate whether a Call Short Albatross Spread or a Put Short Albatross Spread yields a higher credit with the same strike prices.

Example : Assuming QQQQ trading at $43.57

Buy To Open 1 contract of Jan $41 Put at $0.20
Sell To Open 1 contract of Jan $42 Put at $0.59
Sell To Open 1 contract of Jan $45 Put at $1.84
Buy To Open 1 contract of Jan $46 Put at $2.80

Net Credit = ($0.20 - $0.59 - $1.84 + $2.80) x 100 = $57.00 per position


In this case, Put Short Albatross Spread yields a higher net credit than the Call Short Albatross Spread today, so the Put Short Albatross Spread should be used instead.



Trading Level Required For Short Albatross Spread


A Level 4 options trading account that allows the execution of credit spreads is needed for the Short Albatross Spread. Read more about Options Account Trading Levels.



Profit Potential of Short Albatross Spread :


Short Albatross spreads achieve their maximum profit potential, which is the net credit received from putting on the positions, at expiration if the price of the underlying asset exceeds either the upper breakeven point or lower breakeven point. The profitability of a Short Albatross spread can also be enhanced or better guaranteed by legging into the position properly.



Profit Calculation of Short Albatross Spread:


Maximum Profit = Net Credit
Maximum Loss = Strike Difference between Long and Short Leg - credit

From the above Put Short Albatross Spread example :

Maximum Profit = $57.00
Maximum Loss = $1 - $0.57 = $0.43 x 100 = $43.00 per position

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Risk / Reward of Short Albatross Spread:



Upside Maximum Profit: Limited

Maximum Loss: Limited



Break Even Points of Short Albatross Spread:


A Short Albatross Spread is profitable if the underlying asset expires outside of the price range bounded by the upper and lower breakeven points.

1. Lower Breakeven Point : Credit + Lower Strike Price

Credit = $0.57 , Lower Strike Price = $41.00

Lower Breakeven Point = $0.57 + $41.00 = $41.57.

And

2. Upper Breakeven Point : Higher Strike Price - Credit

Credit = $0.57 , Upper Strike Price = $46.00

Higher Breakeven Point = $46.00 - $0.57 = $45.43.




Advantages Of Short Albatross Spread:



:: Largest maximum profit potential amongst the complex volatile option strategies.

:: Maximum loss and profits are predictable and customisable.

:: Narrower breakeven range than the basic volatile option strategies.

:: Net credit received lowers risk and puts time decay in your favor.

:: Lower maximum loss than basic volatile option strategies.



Disadvantages Of Short Albatross Spread:



:: Larger commissions involved than basic volatile option strategies with lesser trades.

:: Has a widest breakeven range of all complex volatile option strategies.

:: Margin is required as this is a credit spread.



Adjustments for Short Albatross Spreads Before Expiration :



1. When it is obvious that the underlying stock is going to go up, you could buy back the short In The Money (ITM) call options to maximise profits, essentially transforming the position into a Bull Call Spread with an additional call option on it.

2. If the underlying asset has dropped in price and is expected to continue dropping, you could sell the long call options and hold the short call options. This action is only possible if your broker allows you to sell naked options.


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