Butterfly Spread

A butterfly spread is a yield curve trade involving three maturities: a short and long maturity (the "wings") and an intermediate maturity (the "belly"). It isolates the curvature component of the yield curve, independent of parallel shifts and slope changes.

A long butterfly (long the wings, short the belly) profits when the curve becomes more humped — the belly cheapens relative to the wings. A short butterfly profits when the belly richens.

Example: the classic 2s/5s/10s butterfly:

• Long 2-year and 10-year notes (the wings)
• Short 5-year notes (the belly)
• Duration-weighted so the trade is neutral to both parallel shifts and slope changes

Butterfly spreads are quoted in basis points as:

Butterfly = (wing1 yield + wing2 yield) / 2 - belly yield

Positive values mean the belly is rich (low yield, expensive price) relative to the wings; negative values mean the belly is cheap (high yield, inexpensive price).

Butterfly trades are used for:

• Relative value: exploiting mispricings in the curvature
• Hedging: isolating exposure to curvature risk
• Expressing views on policy: Fed tightening often flattens the front-end wing while steepening the long-end, affecting butterfly shape

The blog post "Ten Treasury Curve Snapshots That Tell the Story of a Generation" discusses how butterfly spreads shift across major market events.