Good morning brunario … the thing with a calendar spread is that once one side of it expires, you are liable for the other side as a “naked” option position.
In the example that Dan used, assume that the November calls expire worthless. What you’ve done is use the sale of those calls to reduce the cost of buying the $25 calls. You will still hold the Jan 25 calls – you are not obligated to exercise them, because you bought them. You BOUGHT the RIGHT to CALL AWAY stock at a $25 price.
On the other side of the example (which is what you are asking about), if the stock goes above $28 before the November expiration, those calls will get exercised by the party who bought them from you. In this case, you SOLD the RIGHT to HAVE STOCK CALLED AWAY FROM YOU at a $28 cost basis. What would happen in this case is that the November $28 calls get exercised, and you are protected by the January $25 calls (which will also get exercised, as part of your spread). Even if that happens, though, the profit you make is, as Dan explained in the video, about $0.85 per contract – roughly 39% of what you risked in the trade.
Never heard of or did a calendar spread. I didn’t know you could sell an option on a stock(covered call I understand) that you didn’t already own? Need to find something more to read to help me understand this trade. Wouldn’t get into this one even though it sounds extremely interesting and relatively low risk as I need to better understand even though you were very through in your explanation.
Yes – you can sell options on stocks you don’t own – you just have to have a margin account to do it, and enough margin available in your account to meet your broker’s requirements (you’ll have to check with your broker on that). Dan has done a number of videos on spreads of several different kinds, and they’re all in the education section of the site. Please do make use of them – you will find the resource invaluable.
If BTU is at or above the 28 strike in November do you simply unravel the spread or let the stock get called?
Good morning brunario … the thing with a calendar spread is that once one side of it expires, you are liable for the other side as a “naked” option position.
In the example that Dan used, assume that the November calls expire worthless. What you’ve done is use the sale of those calls to reduce the cost of buying the $25 calls. You will still hold the Jan 25 calls – you are not obligated to exercise them, because you bought them. You BOUGHT the RIGHT to CALL AWAY stock at a $25 price.
On the other side of the example (which is what you are asking about), if the stock goes above $28 before the November expiration, those calls will get exercised by the party who bought them from you. In this case, you SOLD the RIGHT to HAVE STOCK CALLED AWAY FROM YOU at a $28 cost basis. What would happen in this case is that the November $28 calls get exercised, and you are protected by the January $25 calls (which will also get exercised, as part of your spread). Even if that happens, though, the profit you make is, as Dan explained in the video, about $0.85 per contract – roughly 39% of what you risked in the trade.
Never heard of or did a calendar spread. I didn’t know you could sell an option on a stock(covered call I understand) that you didn’t already own? Need to find something more to read to help me understand this trade. Wouldn’t get into this one even though it sounds extremely interesting and relatively low risk as I need to better understand even though you were very through in your explanation.
Good morning David,
Yes – you can sell options on stocks you don’t own – you just have to have a margin account to do it, and enough margin available in your account to meet your broker’s requirements (you’ll have to check with your broker on that). Dan has done a number of videos on spreads of several different kinds, and they’re all in the education section of the site. Please do make use of them – you will find the resource invaluable.
– Tim