BEAR CALL SPREAD STRATEGY: SELL ITM CALL, BUY OTM
CALL
The Bear Call
Spread strategy can be adopted when the investor feels that the stock / index
is either range bound or falling. The concept is to protect the downside of
a Call Sold by buying a Call of a higher strike price to insure the Call
sold. In this strategy the investor receives a net credit because the Call
he buys is of a higher strike price than the Call sold. The strategy requires
the investor to buy out-of-the-money (OTM) call options while simultaneously
selling in-the-money (ITM) call options on the same underlying stock index.
This strategy can also be done with both OTM calls with the Call purchased
being higher OTM strike than the Call sold. If the stock / index falls both
Calls will expire worthless and the investor can retain the net credit. If the
stock / index rises then the breakeven is the lower strike plus the net credit.
Provided the stock remains below that level, the investor makes a profit.
Otherwise he could make a loss. The maximum loss is the difference in strikes
less the net credit received. Let us understand this with an example.
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When to use: When the
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Example:
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investor
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is
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mildly
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bearish on market.
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Mr. XYZ is bearish on Nifty. He sells an ITM
call option
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with strike price of Rs. 2600 at a premium of
Rs. 154
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Risk:
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Limited
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to
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the
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and buys an OTM call option with strike price
Rs. 2800
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at a premium of Rs. 49.
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difference
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between
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the
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two strikes minus the net
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Strategy : Sell a Call with a lower strike (ITM)
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premium.
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+ Buy a Call with a higher strike (OTM)
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Reward: Limited to the
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Nifty index
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Current Value
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2694
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net premium received for
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the
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position
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i.e.,
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Sell ITM Call
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Strike Price (Rs.)
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2600
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premium received for the
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Option
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Mr. XYZ
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Premium (Rs.)
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154
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short
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call minus
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the
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receives
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premium
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paid
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for
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the
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Buy OTM Call
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Strike Price (Rs.)
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2800
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long call.
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Option
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Mr. XYZ pays
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Premium (Rs.)
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49
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Break
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Even
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Point:
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Lower Strike + Net credit
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Net premium received
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105
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(Rs.)
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Break Even Point (Rs.)
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2705
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On expiry
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Nifty Closes
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Net Payoff from Call
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Net Payoff from Call
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Net Payoff
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at
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Sold (Rs.)
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bought (Rs.)
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(Rs.)
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2100
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154
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-49
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105
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2200
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154
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-49
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105
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2300
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154
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-49
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105
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2400
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154
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-49
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105
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2500
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154
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-49
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105
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2600
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154
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-49
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105
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2700
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54
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-49
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5
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2705
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49
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-49
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0
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2800
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-46
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-49
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-95
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2900
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-146
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51
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-95
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3000
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-246
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151
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3100
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-346
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251
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-95
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3200
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-446
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351
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-95
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3300
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-546
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451
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-95
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