A bull call spread is established by buying call options on a stock at one strike price and selling the same number of options at a higher strike price. The trade is usually established with the stock price near the lower strike price and hits its maximum profit potential if the underlying stock is at or above the higher strike price of the sold call options when the options expire. This strategy is used to profit from a rising stock price. Adjustments may be made based on what the stock price actually does.
1. Close out the spread early if the stock drops in price and you do not now believe it can recover to at least above the lower call option strike price. A bull call spread is initiated for a debit to your trading account, so closing the trade will result in a credit to your account. The credit will be less than the trade cost but will reduce your loss on the trade. To close involves buying back the sold call options and selling the purchased options.
2. Close the spread early if the stock moves above the higher strike price and the spread is near the maximum profit potential. The maximum profit is the difference in the strike prices minus the debit paid to establish the trade. If the cost difference between the two options is close to the difference between the two strike prices, the trade is near the maximum profit. Closing the trade early locks in the profit, and you can use the proceeds for another trade.
3. Buy back the options sold at the higher strike price if the share price stagnates and the value of those options drops to near zero. Taking out the sold options allows your profits to run if the stock does take off and move above the higher strike price before the expiration date is reached.
- A bull call spread has limited downside risk and a set maximum profit. Careful consideration should be given before attempting to adjust any established options spread trade.
- The strike price is the price at which the underlying stock would be bought or sold if the option was exercised by an option buyer.
- Online broker option trading systems will allow you to pick the options for a spread trade and then complete the buying and selling with a single trade entry. Closing the trade can be accomplished in the same manner.
- Trading costs of options, including bid/ask spreads and commissions, can have a significant effect on the profitability of an options trade. Adjusting the trade will increase these costs, and the effect should be calculated before an adjustment is made.
- Options Playbook: Long Call Spread
- Hubb Financial Group: Flexibility: Morphing a Bull Call Spread
- Options as a Strategic Investment, 3rd edition; Lawrence G. McMillan
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