35 lines
2.2 KiB
Plaintext
35 lines
2.2 KiB
Plaintext
outcomes at expiration—above or below the strike—this spread has three
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possibilities: below both strikes, between the strikes, or above both strikes.
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In this example, if Apple is below $395 at expiration, both calls expire
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worthless. The rights and obligations of the options are gone, as is the cash
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spent on the trade. In this case, the entire debit of $4.40 is lost.
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If Apple is between the strikes at expiration, the 405-strike call expires
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worthless. The trader is long stock at an effective price of $399.40. This is
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the $395-strike price at which the stock would be purchased if the call is
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exercised, plus the $4.40 premium spent on the spread. The break-even
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price of the trade is $399.40. If Apple is above $399.40 at expiration, the
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trade is profitable; below $399.40, it is a loser. The aptly named bull call
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spread requires the stock to rise to reach its profit potential. But unlike an
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outright long call, profits are capped with the spread.
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If Apple is above $405 at expiration, both calls are in-the-money (ITM).
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If the 395-strike calls are exercised, the trader buys 100 shares of Apple at
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$395 and these shares, in turn, would be sold at $405 when the 405-strike
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calls are assigned, for a $10 gain per share. Subtract from that $10 the $4.40
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debit spent on the trade and the net profit is $5.60 per share.
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There are some other differences between the 395–405 call spread and the
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outright purchase of the 395 call. The absolute risk is lower. To buy the
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395-strike call costs 14.60, versus 4.40 for the spread—a big difference.
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Because the debit is lower, the margin for the spread is lower at most
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option-friendly brokers, as well.
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If we dig a little deeper, we find some other differences between the bull
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call spread and the outright call. Long options are haunted by the specter of
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time. Because the spread involves both a long and a short option, the time-
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decay risk is lower than that associated with owning an option outright.
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Implied volatility (IV) risk is lower, too. Exhibit 9.2 compares the greeks of
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the long 395 call with those of the 395–405 call spread.
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EXHIBIT 9.2 Apple call versus bull call spread (Apple @ $391).
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395 Call395–405 Call
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Delta 0.484 0.100
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Gamma0.00970.0001
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Theta −0.208−0.014
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Vega 0.513 0.020 |