38 lines
2.4 KiB
Plaintext
38 lines
2.4 KiB
Plaintext
238 Part II: Call Option Strategies
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TABLE 14-1.
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Comparison of spreads at expiration.
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Vertical Bull
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XYZ Price at April 30 April 35 July 30 Spread Diagonal
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April Expiration Price Price Price Profit Spread Profit
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20 0 0 0 -$200 -$300
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24 0 0 1/2 - 200 - 250
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27 0 0 1 - 200 - 200
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30 0 0 2 - 200 - 100
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32 2 0 3 0 0
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35 5 0 51/2 + 300 + 250
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40 10 5 10 + 300 + 200
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45 15 10 15 + 300 + 200
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spread will actually widen to more than 5 points. Thus, the maximum area of profit
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at April expiration for the diagonal spread is to have the stock near the striking price
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of the written call. The figures demonstrate that the diagonal spread gives up a small
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portion of potential upside profits to provide a hedge to the downside.
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Once the April 35 call expires, the diagonal spread can be closed. However, if
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the stock is below 35 at that time, it may be more prudent to then sell the July 35 call
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against the July 30 call that is held long. This would establish a normal bull spread for
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the 3 months remaining until July expiration. Note that ifXYZ were still at 32 at April
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expiration, the July 35 call might be sold for 1 point if the stock's volatility was about
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the same. This should be true, since the April 35 call was worth 1 point with the stock
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at 32 three months before expiration. Consequently, the strategist who had pursued
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this course of action would end up with a normal July bull spread for a net debit of 2
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points: He originally paid 4 for the July 30 call, but then sold the April 35 for 1 point
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and subsequently sold the July 35 for 1 point. By looking at the table of prices for the
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first example in this chapter, the reader can see that it would have cost 2½ points to
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set up the normal July bull spread originally. Thus, by diagonalizing and having the
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near-term call expire worthless, the strategist is able to acquire the normal July bull
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spread at a cheaper cost than he could have originally. This is a specific example of
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how the diagonalizing effect can prove beneficial if the writer is able to write against
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the same long call two times, or three times if he originally purchased the longest
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term call. In this example, if XYZ were anywhere between 30 and 35 at April expira
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tion, the spread would be converted to a normal July bull spread. If the stock were
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above 35, the spread should be closed to take the profit. Below 30, the July 30 call
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would probably be closed or left outright long. |