33 lines
2.2 KiB
Plaintext
33 lines
2.2 KiB
Plaintext
A Directional Approach
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Calendar spreads are often purchased when the outlook for the underlying is
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neutral. Sell the short-term ATM option; buy the long-term ATM option;
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collect theta. But with negative gamma, these trades are never really
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neutral. The delta is constantly changing, becoming more positive or
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negative. It’s like a rubber band: at times being stretched in either direction
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but always demanding a pull back to the strike. When the strike price being
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traded is not ATM, calendar spreads can be strategically traded as
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directional plays.
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Buying a calendar, whether using calls or puts, where the strike price is
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above the current stock price is a bullish strategy. With calls, the positive
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delta of the long-term out-of-the-money (OTM) call will be greater than the
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negative delta of the short-term OTM call. For puts, the positive delta of the
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short-term in-the-money (ITM) put will be greater than the negative delta of
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the long-term ITM put.
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Just the opposite applies if the strike price is below the current stock
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price. The negative delta of the short-term ITM call is greater than the
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positive delta of the long-term ITM call. The negative delta of the long-term
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OTM put is greater than the positive delta of the short-term OTM put.
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When the position starts out with either a positive or negative delta,
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movement in the direction of the delta is necessary for the trade to be
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profitable. Negative gamma is also an important strategic consideration.
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Stock-price movement is needed, but not too much.
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Buying calendar spreads is like playing outfield in a baseball game. To
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catch a fly ball, an outfielder must focus on both distance and timing. He
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must gauge how far the ball will be hit and how long it will take to get
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there. With calendars, the distance is the strike price—that’s where the stock
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needs to be—and the time is the expiration day of the short month’s option:
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that’s when it needs to be at the target price.
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For example, with Wal-Mart (WMT) at $48.50, a trader, Pete, is looking
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for a rise to about $50 over the next five or six weeks. Pete buys the
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August–September call calendar. In this example, August has 39 days until
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expiration and September has 74 days. |