Bear Call Spread - Sell lower strike Call, Buy higher strike Call
Strategies...
- Sell lower strike Call
- Buy same number of higher strike call with the same expiration date.
- Ensure trend is downward
- Preferably with one month or less to expiration
Example...
Amazon.com, Inc. (NASDAQ:AMZN) is trading at $212 on May 26, 2012.
- Sell the Jun 2012 $220 call option for $3.50.
- Buy the Jun 2012 $230 call option for $1.15.
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| Bear Call Spread |
Why Sell Jun $220 Call? You get instant premium = $3.50. You're obligated to sell the stock at $220 if stock price rise.
Why Buy Jun $230 Call? Capped upside risk. If price skyrocketed, you can exercise this option and buy back stock at $230.
How does Bear Call Spread work?
Stock price rise to $250...
- Sell the Jun 2012 $220 Call = Call exercised buy call buyer, loss $30
- Buy the Jun 2012 $230 Call = you exercise the call, gain $20
- Net premium gain: $ 3.50-$1.15 = $2.35
- Profit: -$30+$20+$2.35=-$7.65
Stock price at $222.35...
- Sell the Jun 2012 $220 Call = Call exercised by call buyer, loss $2.35
- Buy the Jun 2012 $230 Call = Out-of-the money, $0
- Net premium gain: $ 3.50-$1.15 = $2.35
- Profit: $0
Stock Price fall to $200...
- Sell the Jun 2012 $220 Call = Call not exercised
- Buy the Jun 2012 $230 Call = Out-of-the money, $0
- Net premium gain: $ 3.50-$1.15 = $2.35
- Profit: $2.35
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| Bear Call Spread |
Advantages...
- Short-term immediate income, net premium = $2.35,
- Capped upside protection. (No matter how high the price rises, loss in Buying and Selling Put is locked to difference in strikes [$230-$220=$10])
Disadvantage...
- Capped downside if the stock fall. (No matter how further stock price falls, you maximum profit limit to net premium gain=$2.35)
Maximum Profit: $3.50-$1.15=$2.35
(premium received - premium paid = net premium gain)
Maximum Loss: ($230-$220)-$2.35=$7.65
(Different in strike - net premium gain)
Breakeven: $220+$2.35=$22.35
(Lower strike + net premium gain)
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