Calendar Spread
Contents
Demystifying Calendar Spreads: A Comprehensive Guide
Understanding Calendar Spreads
Calendar spreads, also known as time spreads or horizontal spreads, are sophisticated options or futures strategies involving the simultaneous purchase and sale of contracts with different delivery dates on the same underlying asset. This article explores the intricacies of calendar spreads and their potential benefits for traders.
Key Takeaways
- Calendar spreads involve buying a longer-dated contract while selling a shorter-dated contract on the same underlying asset.
- Traders utilize calendar spreads to minimize the effects of time decay and capitalize on changes in implied volatility.
- This strategy is most profitable when the underlying asset remains relatively stable until after the near-term option expires.
Exploring Calendar Spread Mechanics
A typical calendar spread entails selling a near-term option and buying a longer-term option with the same strike price. The goal is to profit from time decay and potential increases in implied volatility, making it essential to select strike prices close to the underlying asset's price.
Special Considerations
Traders must monitor changes in implied volatility and time decay, as these factors significantly impact the profitability of calendar spreads. Additionally, understanding the maximum loss potential is crucial, as it's limited to the initial debit paid for the strategy.
Example of a Calendar Spread
Consider a scenario where a trader sells a February call option and buys a March call option on Exxon Mobile stock. The net cost of the spread represents the maximum loss, while the potential profit occurs if the stock remains flat until the near-term option expires, followed by an upward movement before the longer-term option expires.