26 lines
1.7 KiB
Plaintext
26 lines
1.7 KiB
Plaintext
CHAPTER 7
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Bull Spreads
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The bull spread is one of the most popular forms of spreading. In this type of spread,
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one buys a call at a certain striking price and sells a call at a higher striking price.
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Generally, both options have the same expiration date. This is a vertical spread. A bull
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spread tends to be profitable if the underlying stock rrwves up in price; hence, it is a
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bullish position. The spread has both limited profit potential and limited risk.
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Although both can be substantial percentagewise, the risk can never exceed the net
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investment. In fact, a bull spread requires a smaller dollar investment and therefore
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has a smaller maximum dollar loss potential than does an outright call purchase of a
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similar call.
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Example: The following prices exist:
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XYZ common, 32;
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XYZ October 30 call, 3; and
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XYZ October 35 call, 1.
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A bull spread would be established by buying the October 30 call and simultaneous
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ly selling the October 35 call. Assume that this could be done at the indicated 2-point
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debit. A call bull spread is always a debit transaction, since the call with the lower
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striking price must always trade for more than a call with a higher price, if both have
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the same expiration date. Table 7-1 and Figure 7-1 depict the results of this transac
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tion at expiration. The indicated call profits or losses would be realized if the calls
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were liquidated at parity at expiration. Note that the spread has a maximum profit
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and this profit is realized if the stock is anywhere above the higher striking price at
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expiration. The maxipmm loss is realized if the stock is anywhere below the lower
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strike at expiration, and is equal to the net investment, 2 points in this example.
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