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  Calendar Spread ( Other Neutral: Long Straddle - Short Straddle - Long Strangle - Short Strangle - Collar - Reversal - Put Ratio Spread

- Long Condor - Short Condor - Conversion - Butterfly )

 

Calendar spreads are also known as time or horizontal spreads because they involve options with different expiration months. In this case, "horizontal" refers to the fact that option months were originally listed on the board at the exchange from left to right. At the same time, strike prices were listed from top to bottom. For this reason, options with different strike prices and the same expiration are often referred to as vertical spreads.

 

In simplest terms, a long calendar spread involves buying an option with a longer expiration and selling an option with the same strike price and a shorter expiration. For example, imagine that Dell Computer (DELL) is trading for $45 per share. To initiate a calendar spread, you might sell the Dell June 45 calls and buy the July 45 calls.

DELL @ $45

June

July

Dell 45 Calls

4.50

6.50

Time to Expiration

2 months

3 months

Spread value: $2 (6.50 - 4.50)

 
Like most long positions, there is a cost to put on this trade. In this case, the cost is $2. For the time spread to work, the June option must lose its time premium faster than the July option. If the stock price remains relatively stable as the June expiration approaches, the value of the spread should increase. With only one month remaining before the June expiration, the option prices might look like this.

 

DELL @ $45

June

July

Dell 45 Calls

1.50

4.50

Time to Expiration

1 months

2 months

Spread value: $3 (4.50 - 1.50)

 

In this case, the position could be closed for a one-point profit by selling the July calls and buying back the June calls.

 

For long calendar spreads to work, the underlying stock price must remain relatively stable. Any swings in either direction will negatively impact the time value of both options causing the spread to lose value.

 

Click here for Short Calendar Spread

 

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