Bull and Bear Spreads

Question 1

Vertical spreads

Answer 1

• Simple call and put spreads - one option is bought and the other is sold; where both options have the same type and expire at the same time
  ○ The options are distinguished by their different exercise prices
  ○ Can also be called credit or debit spreads
  ○ Ex - buy 1 june 100 call; sell 1 june 105 call
• These spreads are initially bullish or bearish and remain so no matter how market conditions change
  ○ One delta will always be greater than the other
  ○ A call or put vertical spread will have a minimum value of 0 of both options are out of the money and a max value of the of the amount between the exercise prices of both options are in the money
  Whenever a trader buys the lower exercise price and sells the higher exercise price, the position is bullish; whenever a trader buys the higher exercise price and sells the lower exercise price, the position is bearish
• 2 factors determine the total directional characteristics of the position
  1. The delta of the selected spread
  2. The size in which the spread is executed
  If IV is low, the choice of spreads should focus on purchasing the at the money option. If IV is high, the choice should focus on selling the at the money option