How Bull Call Spread Strategy is Really Effective

How Bull Call Spread Strategy is Really Effective

Submitted by adil on Wed, 11/12/2014 - 08:34

Bull call spread strategy promises great profits with minimum loss if the market conditions remain favorable and the trader doesn’t make any mistakes in implementing the strategy. The strategy requires in-depth knowledge about the market and the asset being traded. On top of that, the trader will need to analyze large amount of data with proper background research. If there is a single mistake, the trader may experience severe losses. This strategy is reserved for the experienced traders who do not trade aggressively or in bulk.

The main concept behind the Bull call spread strategy:

This strategy is more like a game of chess – one step back, two steps forward. The trader will need to make some well-thought moves and the results will largely depend upon how well these moves are made. The first move begins when the trader will buy call options for a certain asset with a specific expiry time. As usual, the trader must be pretty sure that the price of the asset will be higher at the expiry time or all the time and investment will go to waste. The second move requires the trader to sell equal number of call options for the same asset with the same expiration time, but with a higher strike price than the call options he bought. The potential profit for the trader is the difference of the two strike prices. In most cases, Bull call spread is a vertical spread.

The main concept behind this strategy is to go for a relatively cheaper options strategy that minimizes losses at the expense of some profit potential. Since the call options are not long term, the difference would usually result in handsome profits.

Why you should use this strategy?

The strategy provides good opportunity to make profits when the trader is certain the prices will increase in the near future. The trader is buying a bunch of call options on an asset and selling the same number of call options on the same asset at the same time, but at a higher price. If the current market price is still lower than the strike price of the call options you are purchasing, then the net profit will be the difference of this strike price of the option trades you purchased and the ones you sold.

An example with favorable outcome:

The stock price of XYZ is currently at $21. You purchase one call option with a strike price of $23 with expiration time of one week. You also sell a call option for XYZ at $30 with the same expiration time of one week. Now the stock price jumps to $40 which pushes the buyer to demand you towards selling your $30 call option. Now the $23 call option purchase will enable you to buy the stock for $23 instead of the current market price of $40. You can then sell the stock to the buyer for $30 with a net profit of $7.

Theoretically, this strategy can offer the trader many folds of profits if implemented successfully. But the trader needs to be very shard in performing technical analysis. This is not a strategy to be tried without enough experience and skills.