When options traders or investors engage in spread strategies, they are often dealing with vertical spreads.

Any margin is created when a person buys and sells call options on the same shares or buys and sells put options on the same shares.

A vertical or price spread gets its name from the vertical movement of prices. In this option strategy, the strike prices are different but the months are the same.

Vertical vs. Horizontal

A horizontal spread is when the strike prices are the same, but the months are different. They are also called calendar sheets. A vertical strategy is the opposite. The months are the same, but the strike prices of the options are different.

The strategy behind this is to make money on the potential strike price difference or premiums, if a premium gain was achieved. All spreads come down to premium vs. trade or exercise potential. Verticals can be credit or debit.

debit margin

When a spread is created and the investor has lost money on premiums (more money was spent buying than selling), it is a debit spread. Because money was lost on the options, the investor will lose money if the options expire worthless (which is possible). The only way a debit margin holder can benefit is by extending or exercising the options. Widening refers to premiums growing and contracts becoming valuable enough to be traded later. A vertical debit spread tells the trader that these contracts must be traded or exercised for profit.

credit spread

When a spread is established and the investor has made money on the premium, it is a credit spread. The profit here remains with the options expiring worthless and the person earning the premium as the maximum profit from him. A vertical credit spread is a strategy that does not work if options are exercised. The strike prices would be reversed, earnings-wise.

examples

Buy 1 WEF Oct 60 Call for $500

Short 1 WEF Oct 70 Call for $200

This is a vertical or price spread because the strike prices are different. It is also a debit, because the premiums have resulted in a loss of $300. This is also a bullish spread. It is bullish because the trader needs the market to rise, hoping that the options will be exercised. The buy call entitles you to buy the stock at 60, and the short call carries the obligation to sell the stock at 70. This potential 10-point gain on the stock is why someone would create a vertical debit spread. If the options expire, the maximum loss would be $300.

Buy 1 GHF on April 30 Call for $600

Short 1 GHF April 20 Call for $900

This is a price or vertical spread as well, but it is a credit spread. He is also bearish. Strike prices are not attractive to this investor, since he will suffer a loss of 10 points if they are exercised. The goal here is for the shares to decline and the vertical options to expire. Credit spreads are always bearish.

These and all spread strategies are most profit-effective when working with stocks you are familiar with. Knowing the trading ranges and pricing habits of your stocks can make them attractive candidates for options or vertical spreads.

Learn more about trading stock options HERE

Good luck!