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Short Call Spread

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1Short Call Spread Empty Short Call Spread Thu Jul 30, 2015 9:36 pm

x-man

x-man

A Short Call Spread requires the trader to buy a Call at an out-of-the-money (OTM) strike price B and sell a Call at a lower strike price A which might be in-the-money (ITM), out-of-the-money (OTM), or at-the-money (ATM) depending on the trader’s risk and maximum profit preferences. If the trader wishes to sell the Call at an out-ofthe-money (OTM) strike price, it must be lower than the strike price of the purchased Call.
By implementing this strategy the trader minimises his risks since by buying the Call at B he caps his losses if the pair’s price increases.The downside is that the premium received decreases by the premium paid in order to buy the Call at B.
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The set-up

  • Buy an OTM Call at strike price B (spot +)
  • Sell an ITM, OTM or ATM Call at strike price A (spot -, +, +0 )
  • At the time of creating this strategy, the pair’s price will be above A and below, at or above B.


Maximum potential profit
The maximum potential profit is the total premium received.

Maximum potential loss
The maximum potential loss is limited to the difference between A and B minus the premium received.

Time impact
In the Short Call Spread, time has no significant effect as any losses suffered by time decay on the purchased Call are equalised by profits made by time decay on the sold Call.

Best/worst case scenario
The best case scenario is when both options expire worthless and the trader’s premium remains unchanged.
The worst case scenario is limited to the difference between A and B minus the premium received.

Tips
By increasing the strike price at A, the received premium decreases but the risk decreases as well. Choosing the correct strike price will depend on the expected currency movements and volatility.

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