TRADING VERTICAL SPREADS Today’s Topics „ Quick review of vertical spreads „ Entering spread orders Presentation Outline „ Vertical Spread Basics z Bull & Bear Spreads Defined z Mechanics at Expiration „ Important Concepts of Option Prices „ Price Behavior of Vertical Spreads „ Entering Spread Orders Vertical Spreads Buy one option and sell another option Same underlying Same expiration dates Different strike prices Bull Call Spread Buy a lower strike and sell a higher strike Buy 1 100 Call 6.00 Sell 1 110 Call 2.50 Net Cost (3.50) Also known as a “Debit Call Spread” Bull Call Spread – At Expiration Buy 1 100 Call 6.00 Sell 1 110 Call 2.50 Net Cost (3.50) 100 110 Bull Call Spread – At Expiration 100 110 Maximum loss = net cost (3.50 in this example) Bull Call Spread – At Expiration 100 110 Maximum profit = Spread – Net Cost (= 10.00 - 3.50 = 6.50 in this example) Bull Call Spread – At Expiration 100 110 Stock price below lower strike at expiration: Both calls expire; result = no position, max loss Bull Call Spread – At Expiration 100 110 Stock price between strikes at expiration: Long call is exercised; short call expires; result = long stock (at strike + net cost) Bull Call Spread – At Expiration 100 110 Stock price above higher strike at expiration: Long call exercised; short call assigned; result = buy stock, sell stock, no position