Vertical spreads will trade between its minimum and maximum values - zero and the difference between the two strikes. In the case of a vertical call spread, the spread will trade closer to zero when the stock trades closer to or lower than the lower strike price. The spread will trade closer to maximum value when the stock trades closer to or higher than the higher strike price.
Remember,...
I am sure many of you have heard of a sophisticated sounding strategy called the Butterfly. For some reason, it seems to be the darling strategy of many of those 'teach-you in five hours' type option companies. They publicize the 'mystical magical Butterfly' and the 'sophisticated Condor' as if they were going to unlock the options version of Pandora's box. I guess they feel that, by...
The seller of a time spread buys the nearer month option and sells the outer-month option in a one-to-one ratio. To profit from the sale of the time spread, the seller must look for two things.
The first is a decrease in implied volatility. As volatility decreases, the out-month option (which the seller is short) loses money faster than the near month option (which the seller is long)...
The terms 'bull' and 'bear' are often associated with vertical spreads. This leads most people to think of vertical spreads as directional plays, which is true. Vertical spreads can also be used to take advantage of two other potential trading opportunities - time decay and volatility movement.
Using Vertical Spreads to Take Advantage of Time Decay
If you are looking for a fully hedged...
To get a firm grasp of volatility's effect on vertical spreads, let us examine three spreads against different implied volatilities while keeping the stock price constant at 67.5. These are the 60 - 65, 65 - 70 and 70 - 75 call spreads.
In-the-Money Vertical Spreads
Looking at the in-the-money spread (June 60 - 65), we see that as volatility increases, the value of the spread decreases....
An investor must always keep in mind that vertical spreads have an intrinsic value. This means it is possible to consider them 'in the money.' If a vertical spread has an intrinsic value, it can also have an extrinsic value. Unlike maximum intrinsic values that equal the difference between the strikes at expiration, maximum extrinsic value deviates from spread to spread based on several...
The selection and management of a vertical spread are only two-thirds of the game. Closing out, rolling or morphing the position has to be analyzed and executed with the same due diligence.
Looking at the closing out of a vertical call spread, we find there are three possible outcomes. The spread can finish out-of-the-money and valueless. For a call spread, this scenario occurs when the...
In our previous reports, we discussed option strategies that feature the use of options in combination with stock such as the buy-write and the use of options against each other in the form of spreads. We will focus on the Straddle, which uses options in unison with each other.
Unlike a spread that features a long option versus a short option, the Straddle features one position (either long...
The Strangle is another option strategy that features the use of options in unison with each other. The Strangle is philosophically identical to its 'cousin' the Straddle. However, whereas the Straddle has a single strike as its focal point, the Strangle has its focal point spread out over two strikes.
The effect of this as compared to the Straddle is that the Strangle will produce wider...
We are going to put together an imaginary spread scenario and set it in real life events. Consider that, in October, you begin to hear about IJK stock. It looks interesting, so you use a variety of sources to learn about it. (News, charts, outside analysts, Internet research, etc.) From your investigations, you decide that this stock is poised for a strong upward move and you would like to take...
