An option spread trading position where the strike price is the same, but the expiration months are different, is known as a horizontal or calendar spread. This multiple option contract strategy is meant to collect the premium net credit or a strike price spread during the time the 2 calendar months are in effect.
Using the months within a spread allows an options investor to trade one contract and allow the other to gain value, after the first option expires.
A horizonal spread can be used with calls or puts. They can also be bullish or bear spreads.
Calendar Call Spread
Buy 1 ASH Jun 60 Call for $600
Sell 1 ASH Apr 60 Call for $400
In this example, the options trader is buying the June Call for more money than the April Call, thus creating a Debit Spread. The strategy here is the investor anticipates the market going up longer than the life of the short call.
If the April call does get exercised, the long call option can cover it. Since this is a horizontal spread, the longer month option carries more profit potential. After the short call expires, the options trader would then have an unlimted gain potential on the call he owns.
Once the short option expires, it is no longer a calendar or horizontal spread.
Horizontal Put Spread
Buy 1 WDG Oct 90 Put for $200
Sell 1 WDG Dec 90 Put for $500
In this strategy, the investor is engaging in options trading of puts with the months set apart. Since the sell put is worth more, this is a Credit Spread. If the options expire, the investor would keep the credit premium of $300. As with any options strategy, horizontal or calendar investments carry risk - but they are potentially very profitable.
The key is to use risk capital when trading calendar contracts or other contracts in this market. A brokerage firm will only approve certain accounts for this type of trading.
Horizontal positions with calls and puts are one of the multiple option strategies traders use - along with long and short straddles, and option hedges with long and short stock positions.
Spreads are considered one of the safer trading strategies when using calls and puts as the 2 contracts in a true spread cover each other to some degree. This is most true if the expiration dates match off or are close together. If the months in the horizontal or calendar position are too far apart, the short option can become uncovered which can produce a large or unlimited loss - which the long option would normally protect.
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