Understanding the jade lizard option strategy

How to construct a jade lizard

A jade lizard is an options trading strategy that combines selling a put option with a call spread to generate premium while limiting upside risk. This strategy is typically used in a bullish market outlook and aims to capitalise on premium collection without exposing the trader to unlimited loss.

Selling a put option

Selling a put generates premium and establishes a bullish stance, as the trader benefits if the underlying asset remains above the strike price. However, like a cash-secured put, it requires collateral to cover potential assignment. If the underlying asset falls below the strike price, the trader may be assigned shares.

Selling a call spread

To manage risk, the strategy also includes selling a call spread, which consists of selling a call option and simultaneously buying a higher strike call option. This limits upside risk by capping potential losses. Typically, the short call is placed near or slightly above the current stock price, while the long call is set at a higher strike price to define the spread width. A crucial aspect of the jade lizard strategy is ensuring that the width of the call spread is less than the total premium collected. This prevents the possibility of incurring additional losses beyond the premium received.

Example

Consider a stock trading at USD 100. A trader sets up a jade lizard strategy as follows:

1. Sell a USD 95 put for a USD 3.00 premium
2. Sell a USD 105 call for a USD 2.00 premium
3. Buy a USD 110 call for a USD 1.00 premium

The total premium collected is: USD 3.00 + USD 2.00 - USD 1.00 = USD 4.00

If the stock price rises above USD 110, the maximum potential loss is offset by the premium collected, ensuring either a small profit or breakeven. This structure makes the jade lizard an effective strategy for traders looking to generate income while managing upside risk.

Why would a trader use a jade lizard?

A trader might choose this strategy when they expect:

• The underlying asset to remain range-bound or move slightly higher.
• Implied volatility (IV) to decline.
• A way to collect premium while limiting upside risk.

Unlike a naked short strangle, a jade lizard removes the risk of unlimited losses on the upside, making it more manageable from a margin perspective.

Choosing strikes and expiration

Selecting strike prices

• The short put should be placed at a level where the trader is comfortable owning the stock if assigned.
• The short call is typically set just above resistance levels.
• The long call caps risk and is placed a few strikes above the short call.

Selecting expiration dates

• Traders often choose expirations between 30 and 60 days to expiration (DTE) to take advantage of theta decay.
• Shorter expirations decay faster but expose traders to greater gamma risk (rapid changes in delta).

This strategy works best when implied volatility is high (IV percentile > 50%) because it involves selling options.

The jade lizard as a short volatility strategy

Since the jade lizard strategy involves selling options, it profits from a decline in implied volatility (IV) and benefits from time decay as options lose value over time. This makes high IV environments ideal for entering the trade, as options are priced higher, allowing traders to collect more premium. Additionally, if realised volatility turns out to be lower than implied volatility, the trade becomes more profitable as the options gradually lose value. However, traders should monitor Vega, which measures sensitivity to IV changes, to avoid exposure to sudden spikes in volatility that could negatively impact the position.

Margin and cash considerations

Most brokers require either cash or margin to cover the short put, similar to a cash-secured put, which means traders must have sufficient collateral to support the position. While the short put requires full collateral, the call spread has a defined risk, meaning it typically requires less margin than a naked call position. Understanding these margin and cash requirements is essential for managing risk and ensuring the trade aligns with the trader's capital allocation strategy.

Comparing the jade lizard to other strategies

Understanding how the jade lizard differs from similar options strategies can help traders decide when to use it.

Jade lizard vs Iron condor

Key difference: The jade lizard collects more premium because it leaves downside risk open, while an Iron Condor has defined risk on both sides.

Jade lizard vs Short straddle vs Short strangle

Key Difference: The jade lizard eliminates the risk of unlimited upside losses, making it safer than a short strangle or straddle.

Greek considerations

Understanding the "Greeks" helps traders manage risk and adjust their positions effectively.

• Theta (time decay). Positive Theta - the trade benefits from time decay, especially in the final weeks before expiration.
• Delta (directional exposure). Typically slightly bullish due to the short put position.
• Vega (implied volatility sensitivity). Negative vega – the strategy benefits when IV drops. Avoid placing the trade when IV is at historical lows, as there may be limited room for further decline.
• Gamma (rate of delta changes). The short put and short call create exposure to sharp price movements. Traders can manage this by adjusting strike prices or rolling the position.

In conclusion

The jade lizard is a neutral-to-bullish options strategy designed to generate income while managing risk. As a short-volatility strategy, it benefits from a decline in implied volatility and is best suited for high IV environments with 30–60 days to expiration (DTE).

This strategy consists of two key components:

1. A short put, which generates premium and provides a bullish stance.
2. A short call spread, which limits upside risk while contributing additional premium.

A critical factor in constructing a jade lizard is ensuring that the total premium collected exceeds the width of the call spread. This prevents the possibility of additional risk if the underlying asset rises significantly.

Traders typically use this strategy when they expect realised volatility to decline, as the short options benefit from time decay and reduced volatility. By carefully understanding the structure, risk profile, and ideal market conditions, traders can effectively use the jade lizard to generate consistent income while keeping upside risk under control.