Vertical Strategies

Vertical Strategies - Buying or Selling a Call or Put Option with SAME Expiration Date but Different Strike Price.

• Bull Call Spread
• Bear Put Spread
• Bull Put Spread
• Bear Call Spread

• Bull Call Ladder
• Bull Put Ladder
• Bear Call Ladder
• Bear Put Ladder

Bear Put Ladder

Bear Put Ladder -  Sell lower strike Put, Sell middle strike Put, Buy higher strike Put

Strategies...

•         Sell lower strike Put
•         Sell middle strike Put with the same expiration date.
•         Buy higher strike Put with the same expiration date.
•         Extension to Bear Put Spread strategy by shorting another Put at lower strike.
•         Short-term strategy, cause of uncapped risk.
•         Maximum Profit if stock falls between the middle and lower strikes.

Example...

Amazon.com, Inc.(NASDAQ:AMZN) is traded at $215 on May 29, 2012.

•             Sell Jun 2012 $200 Put option for $2.20.
•             Sell Jun 2012 $210 Put option for $4.90.
•             Buy Jun 2012 $220 Put option for $9.80.

Bear Put Ladder

  

How does Bear Put Ladder work...

Bear Put Ladder

Net premium paid:             $9.80-$4.90-$2.20=$2.70

Maximum Profit:                $220 - $210-$2.70=$7.30
                                             (Lower strike - (Higher strike - Middle strike) + net premium paid)

Maximum Loss:                  $200 -($220-$210) + $2.70 = $192.7
                                           (Lower strike - (Higher strike - Middle strike) + net premium paid)

Breakeven (Downside):      $200 - $7.30 = $192.7                                     
                                            (Lower strike - maximum profit)

Breakeven (Upside):         $220 - $2.70 = $217.30                                    
                                          (Higher strike  - net premium paid)

Bear Call Ladder

Bear Call Ladder -  Buy lower strike Call, Buy middle strike Call, Sell higher strike Call

Strategies...

•         Sell lower strike Call (OTM)
•         Buy middle strike Call with the same expiration date.
•         Buy higher strike Call with the same expiration date.
•         Extension to Bear Call Spread strategy by buying another call at higher strike.
•         Longer-term strategy, cause we net long position.
•         Make uncapped profit if stock price rises above higher strike.

Example...

Best Buy Co., Inc.(NYSE:BBY) is traded at $19.20 on May 29, 2012.

•             Sell Sep 2012 $20 Call option for $1.49.
•             Buy Sep 2012 $22 Call option for $0.84.
•             Buy Sep 2012 $24 Call option for $0.44.

Bear Call Ladder

 How does Bear Call Ladder work...

Bear Call Ladder

  

Net premium gain:             $1.49 - $0.84 - $0.44 = $0.21

Maximum Profit:                Uncapped potential profit

Maximum Loss:                  $22 - $20 - $0.21 = $1.79
                                            (Middle strike - Lower strike - net premium gain)

Breakeven (Downside):      $20.00 - $0.21 = $19.79                                    
                                            (Lower strike - net premium gain)

Breakeven (Upside):         $24.00 + $1.79 = $25.79                                  
                                          (Higher strike  +  maximum loss)

Bull Put Ladder

Bull Put Ladder -  Buy lower strike Put, Buy middle strike Put, Sell higher strike Put

Strategies...

•         Buy lower strike Put(OTM)
•         Buy middle strike Put (OTM) with the same expiration date.
•         Sell higher strike Put (OTM) with the same expiration date.
•         Bull Put Ladder is a Bull Put Spread with a additional put leg.
•         Extension to Bull Put Spread strategy by buying another put at lower strike.
•         Short-term income strategy

Example...

Microsoft Corporation (NASDAQ:MSFT) is traded at $29 on May 25, 2012.

•             Buy July 2012 $24 Put option for $0.15.
•             Buy July 2012 $26 Put option for $0.32.
•             Sell July 2012 $28 Put option for $0.74.

Bull Put Ladder

How does Bull Put Ladder work...

Bull Put Ladder Table

Net premium gain:             $0.74 - $0.15 - $0.32 = $0.27

Maximum Profit:                $24 - $0.27 = $22.27
                                             (Lower strike - net premium gain)

Maximum Loss:                  $28 - $26 - $0.27 = $1.73
                                            (Higher strike - middle strike - net premium gain)

Breakeven (Downside):      $24.00 - $1.73 = $22.27                                     
                                            (Lower strike - maxium loss)

Breakeven (Upside):         $28.00 - $0.27 = $27.73                                     
                                          (Higher strike  - net premium gain)

Bull Call Ladder

Bull Call Ladder -  Buy lower strike Call, Sell middle strike Call, Sell higher strike Call

Strategies...

•     Buy lower strike Call (either ATM or slightly OTM)
•     Sell Middle Strike Call (OTM) with the same expiration date.
•     Sell Higher Strike Call (further OTM) with the same expiration date.
•     Expect stock rise to middle strike price but not above the short higher strike price.
•     Preferably shorter term to expiration

Example...
JPMorgan Chase & Co.(NYSE:JPM) is trading at $33.50 on May 26, 2012.

•         Buy June 2012 $34 Call option for $1.00.
•         Sell June 2012  $36 Call option for $0.35.
•         Sell June 2012  $38 Call option for $0.10.

Bull Call Ladder

How does Bull Call ladder work?

Stock price at $30...

•             Buy  June 2012 $34 Call = Call not exercise, $0
•             Sell  June 2012 $36 Call = Call not exercise, $0
•             Sell June 2012 $38 Call = Call not exercise, $0
•             Net premium paid: $1.0-$0.35-$0.10=$0.55
•             Profit: -$0.55

Stock price at $34.55...

•             Buy June 2012 $34 Call = Exercise call, gain $0.55
•             Sell June 2012 $36 Call = Call not exercise, $0
•             Sell June 2012 $38 Call = Call not exercise, $0
•             Net premium paid: $1.0-$0.35-$0.10=$0.55
•             Profit: $0.55-$0.55=$0

Maximum profit: Stock price between middle strike and higher strike ($36-$38), if stock price =$36

•             Buy June 2012 $34 Call = Exercise call, gain $2
•             Sell June 2012 $36 Call = Call not exercise, $0
•             Sell June 2012 $38 Call = Call not exercise, $0
•             Net premium paid: $1.0-$0.35-$0.10=$0.55
•             Profit: $2-$0.55=$1.45

Stock Price at $39.45...

•             Buy June 2012 $34 Call = Exercise call, gain $5.45
•             Sell June 2012 $36 Call = Buyer exercise call, loss $3.45
•             Sell June 2012 $38 Call = Buyer exercise call, loss $1.45
•             Net premium paid: $1.0-$0.35-$0.10=$0.55
•             Profit: $5.45-$3.45-$1.45-$0.55=$0

Stock price rise to $40...

•             Buy June 2012 $34 Call = Exercise call, gain $6
•             Sell June 2012 $36 Call = Buyer exercises call, loss $4
•             Sell June 2012 $38 Call = Buyer exercises call, loss $2
•             Net premium paid: $1.0-$0.35-$0.10=$0.55
•             Profit: $6-$4-$2-$0.55=-$0.55

What if stock price rise to $100, your loss is -$60.55 (66-64-62-0.55). Maximum risk is uncapped cause you selling more calls than you're buying. The higher the stock price rise, the more money you lose.

Bull Call Ladder

Advantages...

•         Lower cost
•         Gain money from wider stock price range ($34.55-$39.45)

Disadvantage...

•          Uncapped risk if stock price rises
•          Only for advanced trader
•          Not clear if we have a bullish or bearish strategy.

Maximum Profit:           $36-$34-$0.55=$1.45
                                     (middle strike - lower strike - net premium paid)

Maximum Loss:            UNLIMITED

Breakeven (Downside):  $34+$0.55=$34.55
                                         (Lower strike + net premium paid)

Breakeven (Upside):      $38+$36-$34-$0.55=$39.45
                                      (Higher strike + middle strike - lower strike - net premium paid)

Bear Call Spread

Outlook: Bearish or neutral to bearish

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.

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

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)

Bull Put Spread

Outlook: Bullish or Neutral to Bullish

Bull Put Spread - Buy lower strike Put, Sell higher strike Put

Strategies...

• Buy lower strike put
• Sell same number of higher strike puts with the same expiration date.
• Ensure trend is upward
• Preferably with one month or less to expiration

Example...

VeriFone Systems Inc (NYSE:PAY) is trading at $38 on May 26, 2012.

•     Buy the Jun 2012 $33 put option for $0.35.
•     Sell the Jun 2012 $37 put option for $1.20.

Bull Put Spread

Why Buy Jun $33 Put? You have right to sell the stock at $33 if stock price fall. 

Why Sell Jun $37 Put? Capped downside risk. Jun $37 Put will not be exercised if price fall lower than $37.

How does Bull Put Spread work?

Stock price rise to $40.00...(or higher)

•     Buy the Jun 2012 $33 Put = Out-of-the-money, $0
•     Sell the Jun 2012 $37 Put = Put not exercise, premium gain=$1.20
•     Net premium gain: $ 1.20 - $0.35 = $0.85 
•     Profit: $0.85

Stock price at $36.15...

•     Buy the Jun 2012 $33 Put = at-the-money, $0
•     Sell the Jun 2012 $37 Put = Put exercised, loss $0.85
•     Net premium gain: $ 1.20 - $0.35 = $0.85
•     Profit : $0

Stock Price fall to $30...

•     Buy the Jun 2012 $33 Put = In-the-money, gain $3
•     Sell the Jun 2012 $37 Put = Put exercised, loss $7
•     Net premium gain: $ 1.20 - $0.35 = $0.85
•     Profit : $3-$7+$0.85= -$3.15
•  

Bull Put Spread

Advantages...

• Short-term immediate income, net premium = $0.85,
• Capped downside protection. (No matter how further price goes down, maximum loss in Buying and Selling Put is locked to the difference in strikes $37-$33=$4)

Disadvantage...

• Capped upside if the stock rises.(No matter how high stock price rise, you maximum profit cap to net premium gain=$0.85)

Maximum Profit:    $1.20-$0.35=$0.85
                              (premium received - premium paid = net premium gain)

Maximum Loss:     $37-$33+$0.85=$3.15
                              (Different in strike + net premium gain)          

Breakeven:           $37-$0.85=$36.15
                              (Higher strike - net premium gain)

Bear Put Spread

Outlook: Bearish

Bear Put Spread - Buy Higher Strike Put,  Sell Lower Strike Put


Strategies...

• Sell lower strike put
• Buy same number of higher strike puts with the same expiration date.(either ATM or sightly OTM)
• Downward Trend

Example...

Hewlett-Packard Company (NYSE:HPQ) is trading at $22.50 on May 26, 2012.

    Buy the Nov 2012 $22 put option for $2.10
    Sell the Nov 2012 $17 put option for $0.55.

You're bearish on this stock, so you bought Nov 2012 $22 put.

Why Buy a Put?  Buying a puts will cap your downside. If price goes down, you have the right to sell your stock at price $22.

Why Write/Sell a Put? Selling a put means you expect stock price rise or remains sideways in the next few months. You'll receive premium $0.55 by writing a put, and now your maximum risk has reduced to $1.55 per share.

Bear Put Spread

How does Bear Put Spread work? 

Stock price fall to $17.00... 

• Buying Nov $22 Put Option = In-the-money $5.00,
• Selling Nov $17 Put Option = At-the-money, $0
• Net premium paid: $ 2.10 - $0.55 = $1.55 
•  Profit : $5.00 - $1.55 = $3.45

Stock price fall to $20.45...

• Buying Nov $22 Put Option = In-the-money, gain $1.55
• Selling Nov $17 Put Option = Put not exercise by Put Buyer, $0
• Net premium paid: $ 2.10 - $0.55 = $1.55,
• Profit : $1.55-$1.55=$0

Stock Price rise to $23.00...

•  Buying Nov $22 Put Option = Out-of-the-money, $0
•  Selling Nov $17 Put Option = Put not exercise by Put Buyer, $0
•  Net premium paid: $ 2.10 - $0.55 = $1.55
• Profit: -$1.55

Bear Put Spread

 

Disadvantage... Capped upside profit if the stock falls.

Maximum Loss:     $2.10-$0.55=$1.55
                               (premium paid - premium received = net paid)


Maximum Profit:    ($22.00 - $17.00)-$1.55=$3.45
                              (Different in strike - net paid)


Breakeven:           $22.00-$1.55=$20.45
                              (Higher strike - net paid)

Bull Call Spread

Outlook: Bullish

Bull call spread - Buy Lower Strike Call, Sell Higher Strike Call

Strategies...

• Buy lower strike calls (prefer at-the-money or slightly out-of-the-money)
• Sell same number of higher strike calls with the same expiration date.
• Ensure the trend is upward.

Example...

Hewlett-Packard Company (NYSE:HPQ) is trading at $22.50 on May 26, 2012.

• Buy the Nov 2012 $22 call option for $2.20.
• Sell the Nov 2012 $28 call option for $0.40.

Bull Call Spread

Why Buy Call? You're bullish on this stock and expect stock price will rise.

Why Call Writing?  You can improved opportunity for profit with reduced risk. It's cost $2.20 to buy a call, you gain $0.40 by selling a call. You initial cost has reduced to $1.80.


How does Bull Call Spread work?  


Stock price rises to $30...

• Buy the Nov $22 Call  = In-the-money,gain $8,
• Sell the Nov  $28 Call = Call exercised by buyer, loss $2
• Net premium paid: $ 2.20 - $0.40 = $1.80,
•  Profit : $8.00 - $2.00 - $1.80 = $4.20

Stock price traded at $23.80...

• Buy the Nov $22 Call  = In-the-money,gain $1.80,
• Sell the Nov  $28 Call = Call not exercises, $0
• Net premium paid: $ 2.20 - $0.40 = $1.80,
•  Profit : $1.80 - $1.80 = $0

Stock price traded at $20...

• Buy the Nov $22 Call  = Out-of-the-money, not exercise the call.
• Sell the Nov  $28 Call =  Call not exercises, $0
• Net premium paid: $ 2.20 - $0.40 = $1.80,
•  Profit :  -$1.80 

 Gain/Loss Table...

Bull Call Spread

Disadvantage? Capped upside if the stock rises higher than $28.

Maximum Loss    :      $2.20-$0.40=$1.80
                                 (premium paid - premium received = net paid)
Maximum Profit   :     $6.00-$1.80=$4.20
                                  (Different in strike - net paid)
Breakeven           :      $22.00+$1.80=$23.80
                                 (Lower strike + net paid)