call options

The call calendar spread, sometimes called the bull calendar spread, is an options spread strategy that is most suited to market conditions where you believe the underlying financial instrument is due to rise within the short term, but not by too much.

Over the longer term, however, the options trader is bullish on the underlying.

Here’s how the call calendar spread is constructed:

Sell 1 Out-of-the-money (OTM) call option with a near term expiration
Buy 1 Out-of-the-money (OTM) call options with a longer-term expiration

The idea is to reduce your entry price by selling the shorter-term options and with the intention of riding the longer-term call options for profit.

For this strategy to work, you don’t want the price action of the underlying to spike upwards before the short term option expires. These days, with weekly options, you can come up with all sorts of interesting combinations of expiration dates to make this work for you.

Your intention is also to take advantage of accelerating time decay on the OTM short options, as expiration approaches.

Expiration months on the call calendar spread can be anything from one month apart to whatever distance into the future you wish you place your bought options. Some people are happy to close both positions for a small profit at the expiration of the short options, while others would rather ride the long option into potentially larger profits over time. It all depends on your long term view of where the price of the underlying is expected to be.

Call Calendar Spread Example

A Brief Definition of Stock Option Contracts and How They are Priced

Stock option contracts are effectively a legal arrangement that allows the holder to buy or sell an agreed security or asset (called “the underlying”) for an agreed price, up to an agreed expiration date. The agreed price is called the “strike price”.

There are only two types of stock option contracts:

Call Options
Put Options

Regular traditional option contracts, as opposed to more “exotic” options, are called a “vanilla options”. The more exotic option contracts are called binary options and these have a very different pricing model and reward structure.

Stock option contracts include a number of pricing components, namely:

The greeks
– there are 5 letters of the greek alphabet, each representing a factor in options pricing models. These are the delta, gamma, theta, vega and rho. For further reading, visit our page on the option greeks.

Implied Volatility
– sometimes, due to forces of supply and demand, stock option contracts can become overpriced or underpriced, relative to what would be consider ‘normal’. When this happens, this additional factor is attributed to stock options implied volatility.

Intrinsic Value
– when the strike price of the option, relative to the price of the underlying security, is favourable, the options are said to be “in the money”. When this happens, the options have intrinsic value. Basically it means that, if we had reached options expiration date, the option contracts would still be worth something.

Time Value
– when the strike price of the option, relative to the price of the underlying security, is UNfavourable, the options are said to be “out of the money”. The options have NO intrinsic value. This means that, if we had reached options expiration date, the option contracts would expire worthless. But for the duration of time up UNTIL option expiration date, out of the money stock option contracts still have some value. This value represents ONLY the probability that by expiration date, the options will be “in the money”.

In most countries, one stock options contract allows the holder to control the fortunes of 100 underlying shares. However, you can also trade with options on commodity futures, indexes and foreign currencies, in which case, the volume of the underlying assets varies.

Stock Option Contracts Example

A trader believes that the price of a stock will rise from its current price of $40 to a level nearing $100. Rather than purchasing the stock itself, she can purchase a call option for a fraction of the price at a strike anywhere between $40 and $100. If the stock does indeed rise to $100, and assuming the call option was bought at a strike of $75, the holder stands to gain $25 per share on the contract, minus any premiums paid for the option itself.