SPREADS

SPREADS A spread trading strategy involves taking a position in two or more options of the same type (i.e., two or more calls or two or more puts).

Bull Spreads can be created by buying a European call option on a stock with a certain strike price and selling a European call option on the same stock with a higher strike price. Both options have the same expiration date.

Bull Spreads call

Bull spreads can also be created by buying a European put with a low strike price and selling a European put with a high strike price, as illustrated in Figure 11.3. Unlike bull spreads created from calls, those created from puts involve a positive up-front cash flow to the investor (ignoring margin requirements) and a payoff that is either negative or zero.

Bull Spreads put

Bear Spreads An investor who enters into a bull spread is hoping that the stock price will increase. By contrast, an investor who enters into a bear spread is hoping that the stock price will decline. Bear spreads can be created by buying a European put with one strike price and selling a European put with another strike price. The strike price of the option purchased is greater than the strike price of the option sold.

Bear Spreads put

Bear Spreads call

A butterfly spread involves positions in options with three different strike prices. It can be created by buying a European call option with a relatively low strike price K1, buying a European call option with a relatively high strike price K3, and selling two European call options with a strike price K2 that is halfway between K1 and K3. Generally, K2 is close to the current stock price.

butterfly spread callbutterfly spread put

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