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A Put Calendar Spread involves one long put and one short put where the long put expires after the short put and strike prices are normally the same. This strategy results in a net premium paid (debit) upon initial order entry. Uses Option traders normally use this strategy when their outlook is neutral during the short expiration, but bearish during the long expiration. He or she can give the calendar spread a slightly more bearish short-term outlook by using just out-of-the-money puts. He or she can also use this strategy if there is an expectation of short-term increases in implied volatility. Risks This strategy is considered to have limited risk and limited reward. The maximum gain would occur if the underlying stock closes at-the-money or just out-of-the-money by the short put expiration and/or implied volatility increases. The maximum loss is limited to the amount paid upon initial order entry. Large short-term price movement up or down resulting in the strategy being well in-the-money or out-of-the-money by the short option's expiration is the largest risk associated with this strategy and should be the primary focus of the option trader. In addition, a drop in implied volatility would negatively impact this strategy. Volatility changes can influence the profitability of this strategy. Increases in implied volatility have a positive impact where decreases can be negative. Time decay has a very favorable impact on this strategy up through the expiration of the short put and a negative impact after the short put has expired. Options traders have an increased amount of assignment risk on this trade. Early assignment (American Style) on the short strike price could occur, especially when the strike price is deep in-the-money. Also, assignment at expiration could result in the option trader taking an underlying position. When these risks are a concern, the best course of action may be to close the strategy prior to potential assignment or expiration.
Important Note: Options involve risk and are not suitable for all investors. For more information, please read the Characteristics and Risks of Standardized Options. |
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