Where do you adjust a butterfly? There's no single answer to that question, but many butterfly traders tend to adjust before or as the underlying's price gets close to the edge of the butterfly.

Let's look at what happens at the edge of the butterfly. In order to do that, we need to begin at the beginning with the original setup at about 10:45 am CST on July 3.

Three-Contract RUT ATM Put Butterfly Centered at 990, OptionNet Explorer Chart:

Note that the delta of this trade is -18.30. If you don't know much about the Greeks of options and don't care to learn, you can see the effect of this on the chart by noting that the profit-and-loss line slopes down rather quickly as price goes higher. By the time price would hit the upside breakeven, losses would be rather steep. This is the way the standard butterfly looks at the beginning due to the skew of the options. Some traders like to add a call or call debit spread to the trade to raise the (negative) delta and balance out the slope of the profit-and-loss line to either side of the entry point. Let's do that. I often do that with a deep-in-the-money call but I start my butterflies below the current price and with at least 10 contracts. With a three-contract, at-the-money butterfly, that would totally overwhelm the butterfly. Let's use a call debit spread with this size position.

Original Position with 990/1010 Call Debit Spread Added:

Delta has been raised more than half, of course, from -18.30 to -4.83, but this doesn't have to be a precise halving of the delta risk. Now let's roll this forward in time until price reaches the edge of the fly. Since this is looking back, we know which edge it's going to reach first, don't we?

The next chart brings the trade up to the last thirty minutes of trading on Wednesday, July 10, when the trader might be performing the typical end-of-day check of the position. At this time, the RUT has proven itself capable of gapping higher or lower at the open. A one-standard-deviation move is about 8.57 points at this time. Looking at this chart, we'll see that a gap of that magnitude the next morning will bring the RUT to the edge of the expiration breakeven.

Price Approaching the Edge of the Expiration Tent:

The loss is mounting, currently 10 percent of the maximum margin in the trade. Delta is much more negative now, at -33.37, so that loss is going to mount even more if the RUT gaps up and keeps running the next morning. Still, the price isn't quite at the edge. What is the trader to do?

That might depend on the trader's original plan, market outlook and risk aversion. Choices include doing nothing and waiting to see what happens the next day, adding one or more call debit spread positions to raise the (negative) deltas, or moving all or part of the butterflies since it's splitting hairs to say the fly isn't at an adjustment point. Some traders even choose, under some market conditions, to adjust butterflies in stages before prices get to the edge of the expiration tent, so only the last third or half of the fly is moved as price approaches the edge of the tent. That makes the initial adjustments less expensive and cuts down the realized losses as adjustments are made, but it also means that adjustments are made more frequently and some adjustments turn out not to have been needed, too.

Adding Two More Call Debit Spreads:

This raises the cost of the trade from $5,593, including commissions, to $8,393, including commissions, but delta risk is much alleviated and the tent is widened a bit on the upside. The profit-and-loss line is smoother in the immediate vicinity of the current price. This tactic gives traders some breathing room if their underlying view is that the RUT will turn around. (We of course know it did not immediately turn around, but no one knew that at the time.)

It turns out that moving one of the three flies to the ATM doesn't change the upside risk that much. Here's a shot of what the trade would look like after moving two of them to the 1020 level, the ATM level at that time.

Moving Two Flies to the New ATM Level:

This effort increases the total cost of the trade from $5,593 to $6,633. It doesn't increase the cost as much as buying two debit spreads, but it does increase the cost. That's because the two new butterflies are more expensive than the out-of-the-money butterflies just sold. However, the risk from the price movement is cut about in half since the original delta of -33.37 is now -16.69. There's now much more room to the upside before price again buts up against the expiration breakeven, but of course that means there's less room to the downside. Vega risk, the risk due to a change in implied volatilities, is also much heightened when compared to the the previous two choices.

Moving All Flies and Re-centering the Butterflies:

The cost of the trade increases from $5,593 to $7,153, but the butterfly is re-centered now, with plenty of room to the upside and the risk of price movement toward the upside reduced. The trade is underwater because of locked-in losses but there's still plenty of profit potential. As should be expected, the vega risk increases even more, with vega now at -269.34.

Which is the right choice and which the worst choice? There's no such thing. If we could have all read the future and known that the RUT was going to keep charging higher, we might have chosen to move all the flies and get it over with. Moving all the flies beefs up the theta-related decay, for example, but it also increases the risk if the RUT rolls over and implied volatilities plump up as price heads for the downside breakeven.

Sometimes you're going to be right in the choices you make in trading, and sometimes you're not. There's no single adjustment practice that's best in all markets, for all people. If you don't have back testing capability like this, then use your brokerage's analysis page to do some forward testing. Roll days forward and adjust implied volatilities and prices to determine what might happen under different trading conditions. Take notes. If you're an engineer type, create a spreadsheet. If you're a writer type, create a trading diary and import charts to it so you can go back and see what was going on and how the trade worked out. Trade small at first. If your trades aren't working, rework your adjustment plan.

What you can't do if you hope to be a profitable trader is close your eyes or turn off your trading screen. You can't say to yourself that "it's got to come back" and let price movements occur without either adjusting or taking off the trade when your max planned loss is reached. Your planned adjustments are not guaranteed to produce a profit, but making a practice of closing your eyes to needed adjustments is guaranteed to eventually wipe out your trading capital.