37 lines
2.4 KiB
Plaintext
37 lines
2.4 KiB
Plaintext
178 Part II: Call Option Strategies
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must be pointed out that the bull spread has fewer dollars at risk and, if the under
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lying stock should drop rather than rise, the bull spread will often have a smaller loss
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than the outright call purchase would.
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The longer it takes for the underlying stock to advance, the more the advantage
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swings to the spread. Suppose XYZ does not get to 35 until expiration. In this case,
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the October 30 call would be worth 5 points and the October 35 call would be worth
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less. The outright purchase of the October 30 call would make a 2-point profit less
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one commission, but the spread would now have a 3-point profit, less two commis
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sions. Even with the increased commissions, the spreader will make more of a prof
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it, both dollarwise and percentagewise.
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Many traders are disappointed with the low profits available from a bull spread
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when the stock rises almost immediately after the position is established. One way to
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partially off set the problem with the spread not widening out right away is to use a
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greater distance between the two strikes. When the distance is great, the spread has
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room to widen out, even though it won't reach its maximum profit potential right
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away. Still, since the strikes are "far apart," there is more room for the spread to
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widen even if the underlying stock rises immediately.
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The conclusion that can be drawn from these examples is that, in general, the
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outright purchase is a better strategy if one is looking for a quick rise by the under
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lying stock. Overall, the bull spread is a less aggressive strategy than the outright pur
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chase of a call. The spread will not produce as much of a profit on a short-term move,
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or on a sustained, large upward move. It will, however, outperform the outright pur
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chase of a call if the stock advances slowly and moderately by expiration. Also, the
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spread always involves fewer actual dollars of risk, because it requires a smaller debit
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to establish initially. Table 7-2 summarizes which strategy has the upper hand for var
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ious stock movements over differing time periods.
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TABLE 7-2.
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Bull spread and outright purchase compared.
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If the underlying stock ...
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Remains
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Relatively Advonces Advances
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Declines Unchanged Moderately Substantially
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in ...
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1 week Bull spread Bull spread Outright purchase Outright purchase
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1 month Bull spread Bull spread Outright purchase Outright purchase
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At expiration Bull spread Bull spread Bull spread Outright purchase |