Calendar Spread Strategy

Options trading strategies primarily aim to profit from the options market in any one of two ways — namely, vertical or horizontal spreads. Vertical spreads capitalise on the price differences between call and put options, so they involve buying and/or selling options with different strike prices but the same expiry date. 

Horizontal spreads, on the other hand, aim to leverage the difference in the expiration dates between different options contracts. Here, you use call and put options with the same strike price but different expiry dates. By setting off a sale with a purchase, you can reduce the cost of options trading or even enjoy a net credit. 

Trading strategies that use horizontal spreads are commonly known as calendar spreads. In this article, we delve into the meaning of calendar spreads, the common ways to execute them and when they each work best. 

What is a Calendar Spread?

A calendar spread is an options trading strategy that involves purchasing or writing call or put options with the same underlying asset and the same strike price but different expiries. So, a calendar spread involves two positions — one long and one short — both of which use the same type of option (either calls or puts). 

One position has a closer expiration date and the other position has a further expiration date. The long and short positions are chosen based on how you expect the underlying asset’s price to move by the closer and the further expiry dates. 

Furthermore, depending on the premiums paid and received, you may end up with a net premium debit or credit. This is because the further the expiration date, the higher the premium.  

Different Types of Calendar Spreads

Depending on the type of options used, the order of the long and short positions and the overall expectation from the market, calendar spreads can be any one of four types:

  • Long Calendar Spread with Calls

Here, you purchase a long-term expiry call option and sell a short-term expiry call option, both with the same strike price. 

  • Long Calendar Spread with Puts

Here, you purchase a long-term expiry put option and sell a short-term expiry put option, both with the same strike price. 

  • Short Calendar Spread with Calls

Here, you sell a long-term expiry call option and purchase a short-term expiry call option, both with the same strike price. 

  • Short Calendar Spread with Puts

Here, you sell a long-term expiry put option and purchase a short-term expiry put option, both with the same strike price. 

Decoding the Four Calendar Spreads

The four calendar spreads are suited to different market conditions. Let us take a closer look at each of these four spreads and see how you can use call and put options with different expiry dates to implement them. 

  • Long Calendar Spread with Calls

Also known as a long call calendar spread, this strategy relies entirely on call options. You buy a more expensive long-term call and sell a cheaper short-term call, resulting in a net debit. If the stock price remains relatively flat or stable till the closer expiry, the short call will expire worthless and you can profit from the premium. Then, if the stock price moves modestly enough to make the long call profitable by the further expiry date, the trade can be a success. 

For example, say a stock is currently trading at Rs. 465. To set up a long call calendar spread, you:

  • Sell a near-month call with a strike price of Rs. 470 for a premium of Rs. 8 (received)
  • Buy a next-month call with a strike price of Rs. 470 for a premium of Rs. 27 (paid)

If the stock price rises only slightly but remains at or below the strike price by the near-month expiry, the short call will expire worthless and you can profit from the premium. Then, by the next-month expiry, if the stock price rises above the strike price to, say Rs. 475, your long call will be profitable. 

  • Long Calendar Spread with Puts

This strategy, also known as the long put calendar spread, uses only put options. You buy a more expensive long-term put option and sell a less costly short-term put option. This position also gives you a net debit. Here too, if the stock price is relatively stable by the closer expiry date, the short put will be worthless and the premium received results in a profit. Then, if the stock price moves moderately by the longer expiry date, the long put may also be profitable. 

Again, for instance, say a stock is currently trading at Rs. 465. To set up a long put calendar spread, you:

  • Sell a near-month put with a strike price of Rs. 460 for a premium of Rs. 7 (received)
  • Buy a next-month put with a strike price of Rs. 460 for a premium of Rs. 20 (paid)

Say the stock price dips only slightly but remains at or above the strike price by the near-month expiry. Then, the short put will expire worthless and you can profit from the premium. Thereafter, by the next-month expiry, if the stock price falls below the strike price to, say Rs. 455, your long put will be profitable. 

  • Short Calendar Spread with Calls

Like the long call calendar spread, the short call calendar spread also uses only call options, but the positions are reversed. This means you will buy a cheaper call option with a closer expiry and sell a more expensive call option with a further away expiry. The result of setting up the trade is a net credit. Should the stock price move enough in the right direction, the long call with the nearer expiry may be profitable for you. Then, by the further expiry date, if the stock price moves in the opposite direction, the sold call will expire worthless and leave you with the premium as the profit. 

For instance, suppose that a stock is currently trading at Rs. 465. To set up a short call calendar spread, you:

  • Buy a near-month call with a strike price of Rs. 470 for a premium of Rs. 8 (paid)
  • Sell a next-month call with a strike price of Rs. 470 for a premium of Rs. 27 (received)

So, if the stock price rises above the strike price by the near-month expiry, the long call will be profitable for you. However, even if the price is stable and the option expires worthless, you only lose the small premium amount paid. Then, by the next-month expiry, if the stock price falls below the strike price, the sold call option will be worthless and the premium earned will add to your profit. 

  • Short Calendar Spread with Puts

A short put calendar spread is similar to a short call calendar spread. The key difference is that it uses put options instead of call options. You need to buy a cheaper put option with a nearer expiry and sell an expensive put option with an expiry that is further away. This also results in a net credit. 

If the stock price remains relatively stable and above the strike price by the nearer expiry, the long put will expire worthless but the loss will be minimal. Thereafter, if the stock price continues to remain above the strike price, the short put will also expire worthless and you can profit from the net credit. 

In our example, say a stock is currently trading at Rs. 465. To set up a short put calendar spread, you:

  • Purchase a near-month put with a strike price of Rs. 460 for a premium of Rs. 7 (paid)
  • Sell a next-month put with a strike price of Rs. 460 for a premium of Rs. 20 (received)

Now, if the stock price remains around its current level by the near-month expiry, the long put with the shorter expiry will expire worthless and you will lose the small amount of premium paid. However, if the price continues to remain at the same level even by the next-month expiry, the short put will also expire worthless and your net profit will be the net premium received for the setup. 

Make More Informed Trading Decisions with Samco Securities

This sums up all you need to know about calendar spreads using call and put options. To make the most of calendar spreads, you need to assess the potential outcomes of each trade and identify the most profitable strike price. This means you must also account for other costs involved, like the brokerage charges. 

The Samco brokerage calculator can help you with this. Offered online free of cost by Samco Securities, this tool allows you to quickly check the brokerage charges for any trade you wish to initiate. What’s more, you can also use the Samco brokerage calculator to calculate other costs involved, like the GST, STT, stamp duty, SEBI turnover fees and exchange transaction charges. In addition to these finer details, the Samco brokerage calculator also compares the total cost of the trade when executed via the Samco Securities trading platform vs the cost elsewhere, on a percentage-wise basis — so you have a clear idea of the savings you enjoy by choosing Samco.

Disclaimer: INVESTMENT IN SECURITIES MARKET ARE SUBJECT TO MARKET RISKS, READ ALL THE RELATED DOCUMENTS CAREFULLY BEFORE INVESTING. The asset classes and securities quoted in the film are exemplary and are not recommendatory. SAMCO Securities Limited (Formerly known as Samruddhi Stock Brokers Limited): BSE: 935 | NSE: 12135 | MSEI- 31600 | SEBI Reg. No.: INZ000002535 | AMFI Reg. No. 120121 | Depository Participant: CDSL: IN-DP-CDSL-443-2008 CIN No.: U67120MH2004PLC146183 | SAMCO Commodities Limited (Formerly known as Samruddhi Tradecom India Limited) | MCX- 55190 | SEBI Reg. No.: INZ000013932 Registered Address: Samco Securities Limited, 1004 - A, 10th Floor, Naman Midtown - A Wing, Senapati Bapat Marg, Prabhadevi, Mumbai - 400 013, Maharashtra, India. For any complaints Email - grievances@samco.in Research Analysts -SEBI Reg.No.-INHO0O0005847

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