224 Part II: Call Option Strategies 
before April expiration. He should then figure his collateral requirement as if the 
stock were at 53, regardless of what the collateral requirement is at the current time. 
This is a prudent tactic whenever naked options are involved, since the strategist will 
never be forced into an unwanted close-out before his defensive action point is 
reached. The collateral required for this example would then be as follows, assuming 
the call is trading at 3½: 
20% of 53 
Call premium 
Less initial credit 
Total collateral to set aside 
$1,060 
+ 350 
-___fill 
$1,360 
The strategist is not really "investing" anything in this strategy, because his require­
ment is in the form of collateral, not cash. That is, his current portfolio assets need 
not be disturbed to set up this spread, although losses would, of course, create deb­
its in the account. Many naked option strategies are similar in this respect, and the 
strategist may earn additional money from the collateral value of his portfolio with­
out disturbing the portfolio itself. However, he should take care to operate such 
strategies in a conservative manner, since any income earned is "free," but losses may 
force him to disturb his portfolio. In light of this fact, it is always difficult to compute 
returns on investment in a strategy that requires only collateral to operate. One can, 
of course, compute the return on the maximum collateral required during the life of 
the position. The large investor participating in such a strategy should be satisfied 
with any sort of positive return. 
Returning to the example above, the strategist would make his $50 credit, less 
commissions, if the underlying stock remained below 50 until July expiration. It is not 
possible to determine the results to the upside so definitively. If the April 50 calls 
expire worthless and then the stock rallies, the potential profits are limited only by 
time. The case in which the stock rallies before April expiration is of the most con­
cern. If the stock rallies immediately, the spread will undoubtedly show a loss. If the 
stock rallies to 50 more slowly, but still before April expiration, it is possible that the 
spread will not have changed much. Using the same example, suppose that XYZ ral­
lies to 50 with only a few weeks of life remaining in the April 50 calls. Then the April 
50 calls might be selling at l ½ while the July 50 call might be selling at 3. The ratio 
spread could be closed for even money at that point; the cost of buying back the 2 
April 50's would equal the credit received from selling the one July 50. He would thus 
make½ point, less commissions, on the entire spread transaction. Finally, at the expi­
ration date of the April 50 calls, one can estimate where he would break even. 
Suppose one estimated that the July 50 call would be selling for 5½ points if XYZ 
were at 53 at April expiration. Since the April 50 calls would be selling for 3 at that