IPO Insight

Calendar call

Calendar Call

Table of Contents

Basics Concepts – Calendar Call

Calendar Call

Description - Calendar call

  • Calendar spreads are known as horizontal spreads, and the Calendar Call is a variation of a Covered Call, where you substitute the long stock with a long-term long call option instead.
  • The Calendar Call certainly requires less investment; however, the shape is different.
  • If the stock rises too far too soon, then the Calendar Call can become loss-making.
  • So even though you got the direction of the trade right, you could still lose money
  • Buy a long-term expiration call with a near the money strike price.
  • Sell a short-term call (say monthly) with the same strike price.
Description Calendar Call

Introduction to Calendar Call

Outlook

  • With a Calendar Call, your outlook is neutral to bullish. You expect a steady rise.

Rationale

  • To generate income against your longer term long position by selling calls and receiving the premium.

Net Position

  • This is a net debit transaction because your bought calls will be more expensive than your sold calls, which have less time value.
  • Your maximum risk on the trade itself is limited to the net debit of the bought calls less the sold calls. Your maximum reward is limited to the residual call value when the stock is at the strike price at the first expiration, less the net debit.

Effect of Time Decay

  • Time decay affects your Calendar Call trade in a mixed fashion. It erodes the value of the long call but helps you with your income strategy by eroding the value faster on the short call.

Time Period to Trade

  • You will be safest to choose a long time to expiration with the long call and a short time for the short call.

Breakeven Down = Depends on the value of the long call option at the time of the short call expiration

Breakeven Up = Depends on the value of the long call option at the time of the short call expiration

Steps to Trading a Calendar Call

Steps In

  • Try to ensure that the trend is upward or range bound and identify clear areas of support and resistance.

Steps Out

  • Manage your position according to the rules defined in your Trading Plan
  • If the stock closes above the strike at expiration, you will be exercised. You will sell your long call, buy the stock at the market price, and deliver it at the strike price, having profited from both the short option premium
    you received and the uplift in the long option premium.
  • If the stock remains below the strike but above your higher stop loss, let the short call expire worthless and keep the entire premium.
  • If the stock falls below your lower stop loss, then either sell the long option (if you’re approved for naked call writing) or reverse the entire position.

Exiting the trade - Calendar Call

Exiting the Position

  • With this strategy, you can simply unravel the spread by buying back the calls you sold and selling the calls you bought in the first place.
  • Advanced traders may leg up and down as the underlying asset fluctuates up and down.
  • In this way, you can take incremental profits before the expiration of the trade.

Mitigating a Loss

  • Unravel the trade as described previously.
  • Advanced traders may choose to only partially unravel the spread leg-by-leg.
  • In this way, they will leave one leg of the spread exposed in order to attempt to profit from it.

Advantages and Disadvantages

Advantages

  • Generate monthly income.
  • Can profit from range bound stocks and make a higher yield than with a Covered Call.

Disadvantages

  • Capped upside if the stock rises.
  • Can lose on the upside if the stock rises significantly.
  • High yield does not necessarily mean a profitable or high probability profitable trade.

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