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.
[You must be registered and logged in to see this image.]
- 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.
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.
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.