00:22 What is a Call Spread?
Call spread — Buying a call option with a strike that’s closer to being in the money while simultaneously selling another call option with a strike that’s further out-of-the-money.
An example is to buy the April 16 $81 strike calls for CHWY and then sell the April 16 $88 strike calls for CHWY. The spread or difference between the strikes was determined by the straddle looked at in the previous video.
- A cheaper strategy to place a single-directional bet on a stock when premiums are high. A call spread is less expensive because the premium collected from selling the second call options helps pay for the cost of the first call option.
- If the stock price drops our loss is buffered by the call option sold.
- Needs a higher level of options trading and margin requirement to sell call options.
- If the stock price gaps up quickly, some upside is lost due to the second call option being sold.
7:05 Risks to a call spread
The most that call spread can be worth is $7 ($88-$81). The most money I could make is $7- (cost of the trade = cost of buying the long call options - the premium received for selling the short option). In this case, it would have been $430 for 1 contract.
Break-even = Strike of long call + premium of long call - premium collected from the short call.
Max Loss = cost of buying the call option - premium received for selling a short option, or $270.
As options traders, we're paying less for the call spread and we also get better break evens. These benefits are traded for a capped or limited upside, and help us manage our risk.