238 Part II: Call Option Strategies 
TABLE 14-1. 
Comparison of spreads at expiration. 
Vertical Bull 
XYZ Price at April 30 April 35 July 30 Spread Diagonal 
April Expiration Price Price Price Profit Spread Profit 
20 0 0 0 -$200 -$300 
24 0 0 1/2 - 200 - 250 
27 0 0 1 - 200 - 200 
30 0 0 2 - 200 - 100 
32 2 0 3 0 0 
35 5 0 51/2 + 300 + 250 
40 10 5 10 + 300 + 200 
45 15 10 15 + 300 + 200 
spread will actually widen to more than 5 points. Thus, the maximum area of profit 
at April expiration for the diagonal spread is to have the stock near the striking price 
of the written call. The figures demonstrate that the diagonal spread gives up a small 
portion of potential upside profits to provide a hedge to the downside. 
Once the April 35 call expires, the diagonal spread can be closed. However, if 
the stock is below 35 at that time, it may be more prudent to then sell the July 35 call 
against the July 30 call that is held long. This would establish a normal bull spread for 
the 3 months remaining until July expiration. Note that ifXYZ were still at 32 at April 
expiration, the July 35 call might be sold for 1 point if the stock's volatility was about 
the same. This should be true, since the April 35 call was worth 1 point with the stock 
at 32 three months before expiration. Consequently, the strategist who had pursued 
this course of action would end up with a normal July bull spread for a net debit of 2 
points: He originally paid 4 for the July 30 call, but then sold the April 35 for 1 point 
and subsequently sold the July 35 for 1 point. By looking at the table of prices for the 
first example in this chapter, the reader can see that it would have cost 2½ points to 
set up the normal July bull spread originally. Thus, by diagonalizing and having the 
near-term call expire worthless, the strategist is able to acquire the normal July bull 
spread at a cheaper cost than he could have originally. This is a specific example of 
how the diagonalizing effect can prove beneficial if the writer is able to write against 
the same long call two times, or three times if he originally purchased the longest­
term call. In this example, if XYZ were anywhere between 30 and 35 at April expira­
tion, the spread would be converted to a normal July bull spread. If the stock were 
above 35, the spread should be closed to take the profit. Below 30, the July 30 call 
would probably be closed or left outright long.