Broken Wing Butterfly: Remove One Side of Risk

Key Takeaways

• A broken wing butterfly skips a strike on one side, creating an asymmetric 1-2-1 structure that often opens for a net credit.
• If opened for a credit, the position has zero risk on the narrow-wing side and capped loss only on the wider broken-wing side.
• A common mistake: treating the credit as free money, the saved premium funds a larger maximum loss on the skipped-strike side.
• The structure is positive theta and short vega near the body, suited to low-volatility pin trades with a clear directional lean.

What It Is

A standard call butterfly buys one call at A, sells two at B, and buys one at C, with equidistant strikes. A broken wing call butterfly skips a strike on the upper side. For example, with $5-wide strikes the trader uses 95, 100, and 110 instead of 95, 100, 105. The legs are:

• Long one call at strike A
• Short two calls at strike B
• Long one call at strike D, where D - B is wider than B - A

The put version mirrors the structure on the downside. Schwab's educational page describes the result as a butterfly with one wing "broken" outward, eliminating risk on the side opposite the wider wing while concentrating risk on the wider side. Because the further out-of-the-money long wing is cheaper than the symmetric long wing it replaces, the position can often be opened for a net credit.

The Intuition

A symmetric butterfly is a pin trade. A broken wing turns it into a directional pin trade with a one-sided risk profile. If you skip a strike on the upside, the upper long wing costs less than the symmetric one would. That cost saving funds the trade, and on the side without the long wing the position no longer needs the underlying to stop in a tight zone to break even.

The trade fits a view that price will pin near the body strike or move in one direction but not the other. McMillan describes broken wing structures as a way to "remove risk on one side" by accepting open or wider risk on the opposite side.

How It Works

For a broken wing call butterfly with strikes A < B < D where D - B > B - A, let net credit C (positive credit, negative debit) be the entry premium. At expiration:

S <= A:  C
A < S <= B:  (S - A) + C
B < S <= D:  (S - A) - 2(S - B) + C = -(S - 2B + A) + C
S > D:  (S - A) - 2(S - B) + (S - D) + C = (2B - A - D) + C

If the trade opens for a credit, the downside is risk-free. The maximum loss happens at strike D and equals (D - B) - (B - A) - C in absolute value. The maximum profit at the body strike B equals (B - A) + C.

ASCII payoff (broken wing call butterfly opened for credit)

profit
  |          /\
  |         /  \
  |        /    \
  | _____ /      \_____
  | C    /              \
  +-----A----B-----------D--->S
  |                      \____
  |                            (right tail loss capped)

max profit = (B - A) + C  at S = B
left side: profit = C if S <= A (no risk if credit-opened)
right tail max loss = (D - B) - (B - A) - C   if positive
upper breakeven = 2B - A + C

Greeks near the body strike are short gamma, slightly negative vega, and positive theta. The credit-opened version generates positive theta until price approaches the right tail.

Worked Example

Stock XYZ trades at $98 with 35 days to expiration. You think the stock pins or drifts up to $100, with limited risk that it spikes. You open a broken wing call butterfly:

• Buy one 95 call for $4.10
• Sell two 100 calls for $1.80 each
• Buy one 110 call for $0.30

Net cost: 4.10 - 3.60 + 0.30 = $0.80 debit. To make this credit-opened, suppose instead the 95 call costs $3.40, giving 3.40 - 3.60 + 0.30 = $0.10 credit per share, $10 credit per contract set.

max profit = (100 - 95) + 0.10 = $5.10 per share, $510 at S=$100
left side: $10 credit kept if S <= 95
right tail max loss = (110 - 100) - (100 - 95) - 0.10 = $4.90 per share, $490 at S=$110+
upper breakeven = 2(100) - 95 + 0.10 = $105.10

Three outcomes:

• XYZ at $94. All calls expire worthless. $10 credit kept.
• XYZ at $100. Body strike. Long 95 worth $5, shorts and 110 worthless. $510 profit.
• XYZ at $108. Long 95 worth $13, short 100s worth $8 each, 110 worthless. Net 13 - 16 + 0.10 = $290 loss.
• XYZ at $115. Long 95 worth $20, short 100s worth $15 each, long 110 worth $5. Net 20 - 30 + 5 + 0.10 = $490 loss (right tail max).

Common Mistakes

1. Selling the wrong side. A bullish view skips a strike on the upside (call broken wing) or buys on the downside (put broken wing) so the credit is on the side you want to ignore. Inverting the construction creates a position whose risk-free side is actually the side you fear.

2. Treating the credit as free money. The credit comes from accepting a wider, larger maximum loss on the other side. Some retail traders open broken wings repeatedly for small credits and absorb a single tail event that erases months of profit.

3. Confusing broken wing with skip-strike Christmas tree. Both involve skipped strikes but the leg counts differ. A skip-strike butterfly is 1-2-1 with strikes asymmetric. A Christmas tree is 1-3-2 with strikes equidistant. The risk profiles are not interchangeable.

4. Holding through earnings. A short-vol structure with a wider wing on one side gets hammered when implied volatility expands and price drifts toward the wide wing. Close before earnings or pick an expiration that ends before the print.

Frequently Asked Questions

Q: What is a broken wing butterfly in simple terms? It is a butterfly spread where one wing stretches further out by skipping a strike. The position can be opened for a credit and has no risk on the side without the wider wing, while concentrating risk in the direction of the skipped strike.

Q: How does a broken wing butterfly affect investment decisions? It removes risk on one side of the trade while keeping the body pin profit intact. This suits a moderately directional view where you want to be positioned for a price pin but are confident the underlying will not move aggressively in the opposite direction.

Q: What is a real-world example of a broken wing butterfly? With XYZ near $98, buy a 95 call, sell two 100 calls, and buy a 110 call instead of 105. If opened for $0.10 credit, the left side carries no risk and the right tail maximum loss is $4.90, capped at $110.

Q: How can investors use a broken wing butterfly responsibly? Build the wider wing on the side you are least worried about. If you are bullish, break the upside wing, this gives you no risk if the stock stays flat or rises moderately, with limited loss on a sharp rally.

Q: How is a broken wing butterfly different from a standard butterfly? A standard butterfly uses equidistant strikes and opens for a debit with equal risk on both wings. A broken wing butterfly skips a strike on one side, often yielding a credit entry and eliminating risk on the narrow side while creating a larger defined loss on the wider side.

Sources

1. Charles Schwab. "Trading with a Broken Wing Butterfly." https://www.schwab.com/learn/story/trading-with-broken-wing-butterflies
2. Fidelity Learning Center. "Long Skip-Strike Butterfly Spread With Calls." https://www.fidelity.com/learning-center/investment-products/options/options-strategy-guide/long-skip-strike-butterfly-spread-calls
3. Fidelity Learning Center. "Long Skip-Strike Butterfly Spread With Puts." https://www.fidelity.com/learning-center/investment-products/options/options-strategy-guide/long-skip-strike-butterfly-spread-puts
4. McMillan, L.G. (2012). Options as a Strategic Investment, 5th ed. New York Institute of Finance.

Disclaimer

This article is educational content only and is not financial advice. Nothing here is a recommendation to buy, sell, or hold any security. Consult a licensed advisor before making investment decisions.