Options Strategies: Long Call Spread

Option Strategies

Summary:  With a long call spread, you can anticipate a rise in the underlying value with a smaller investment than a single call option. While profits are capped, they can still be very attractive in percentage terms.


What is it?

A purchased call option gives the right to buy an underlying asset (a share, for example) for a certain amount. When you write a call, you enter into a delivery obligation at a certain price.

These two trades can be combined, by buying a call (and getting a right) and at the same time selling a call with a higher strike price (which entails a delivery obligation). This is widely used and called a long call spread.

Why would you want to buy this?

Suppose you expect a certain stock to rise but not indefinitely. The expected increase is a reason to buy a call, but why not take on a delivery obligation at a higher level? After all, you do not expect the share to rise to unprecedented highs. And you get money for the commitment you make.

Spreads have a maturity and this can vary from a few days to a few years. What you also want to know in advance is the price at which you can buy the share and for which you may have to deliver. These are called the strike prices of the option.

Example:

Let's take a look at Apple  stock. The share is currently trading at $145. You expect the share to rise towards $170 and you would like to take advantage of that. You decide to do this by buying the 160-170 call spread.

You buy the call APPL 160 call for $5.20

You sell the call APPL 170 call for $2.99

Example of a profit/loss chart of a long call spread from SaxoTraderGo

On balance you pay $2.21 and if your expectations come true – the share to $170 – the purchase right on $170 must be worth at least $25 and the delivery obligation is then worth $15. On balance, the spread will then increase to $10. You can easily determine this yourself by checking what your position actually is. You may buy at $160, but you must deliver at $170. The difference between them is $10 and that is also the maximum value of the spread.

But you only paid $2.21 for this and you therefore make a great return if you had seen it correctly.

When are you happy with this spread?

If the share goes above $160. You have the right to buy at $160 and you may have to deliver at $170 and you paid €2.21 for that. You will therefore make a profit from $162.21 and above. An increase to above $170 is of course optimal, because then the call spread will reach its maximum value of $10.

When are you not happy?

If the stock goes down because then both options become worthless. Because who has money left over on the third Friday of the month to purchase a purchase right at $160 if the share is for sale on the stock exchange for $140. Exactly, nobody.

When do you buy a call spread?

You buy a call spread if you think the underlying asset will rise in the coming period. You buy a call spread because the investment is smaller than just buying the call. You also sell a call and that reduces the investment. The disadvantage of this is that you maximize the chances of winning

When will you sell the purchased call spread?

You know that the maximum value of the call spread is $10. The spread will reach this value if the stock is above $170 on the expiry day. But you may well be satisfied if your investment rises to $5 This is personal but perhaps the following rule of thumb can help you. Sell the spread when it trades at about 80% of its maximum value. In the case of the spread, that would mean buying the spread at $2.21 which can be worth up to $10. 80% of $10 is $8 and that would mean that if you can sell the spread at $8 you have almost made a very healthy return

What is your maximum risk?

The risk you run when buying the call spread is the premium you have paid. That is your maximum loss and will occur if the stock remains below the strike price of the call option you bought. But you can never lose more than the option premium you paid.

In short

You buy a call spread if you think the underlying asset is going to rise. You know that call spreads are for sale with different maturities and you choose a maturity in which the expected increase can also take place.

You will make a great return if the expected increase actually takes place. Returns of more than 100% are then very possible.

Your maximum risk is also known in advance and that is the price you paid for the call spread. That is the maximum amount you can lose.

Disclaimer

Saxo Capital Markets (Australia) Limited prepares and distributes information/research produced within the Saxo Bank Group for informational purposes only. In addition to the disclaimer below, if any general advice is provided, such advice does not take into account your individual objectives, financial situation or needs. You should consider the appropriateness of trading any financial instrument as trading can result in losses that exceed your initial investment. Please refer to our Analysis Disclaimer, and our Financial Services Guide and Product Disclosure Statement. All legal documentation and disclaimers can be found at https://www.home.saxo/en-au/legal/.

The Saxo Bank Group entities each provide execution-only service. Access and use of Saxo News & Research and any Saxo Bank Group website are subject to (i) the Terms of Use; (ii) the full Disclaimer; and (iii) the Risk Warning in addition (where relevant) to the terms governing the use of the website of a member of the Saxo Bank Group.

Saxo News & Research is provided for informational purposes, does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. No representation or warranty is given as to the accuracy or completeness of this information. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. No Saxo Bank Group entity shall be liable for any losses that you may sustain as a result of any investment decision made in reliance on information on Saxo News & Research.

To the extent that any content is construed as investment research, such content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication.

None of the information contained here constitutes an offer to purchase or sell a financial instrument, or to make any investments.Saxo Capital Markets does not take into account your personal investment objectives or financial situation and makes no representation and assumes no liability as to the accuracy or completeness of the information nor for any loss arising from any investment made in reliance of this presentation. Any opinions made are subject to change and may be personal to the author. These may not necessarily reflect the opinion of Saxo Capital Markets or its affiliates.

Please read our disclaimers:
- Full Disclaimer (https://www.home.saxo/en-au/legal/disclaimer/saxo-disclaimer)
- Analysis Disclaimer (https://www.home.saxo/en-au/legal/analysis-disclaimer/saxo-analysis-disclaimer)
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)

Saxo Capital Markets (Australia) Limited
Suite 1, Level 14, 9 Castlereagh St
Sydney NSW 2000
Australia

Contact Saxo

Select region

Australia
Australia

The Saxo trading platform has received numerous awards and recognition. For details of these awards and information on awards visit www.home.saxo/en-au/about-us/awards

Saxo Capital Markets (Australia) Limited ABN 32 110 128 286 AFSL 280372 (‘Saxo’ or ‘Saxo Capital Markets’) is a wholly owned subsidiary of Saxo Bank A/S, headquartered in Denmark. Please refer to our General Business Terms, Financial Services Guide, Product Disclosure Statement and Target Market Determination to consider whether acquiring or continuing to hold financial products is suitable for you, prior to opening an account and investing in a financial product.

Trading in financial instruments carries various risks, and is not suitable for all investors. Please seek expert advice, and always ensure that you fully understand these risks before trading. Saxo Capital Markets does not provide ‘personal’ financial product advice, any information available on this website is ‘general’ in nature and for informational purposes only. Saxo Capital Markets does not take into account an individual’s needs, objectives or financial situation. The Target Market Determination should assist you in determining whether any of the products or services we offer are likely to be consistent with your objectives, financial situation and needs.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the US and other countries. AppStore is a service mark of Apple Inc.

The information or the products and services referred to on this website may be accessed worldwide, however is only intended for distribution to and use by recipients located in countries where such use does not constitute a violation of applicable legislation or regulations. Products and Services offered on this website is not intended for residents of the United States and Japan.

Please click here to view our full disclaimer.