In an earlier newsletter, I explained why the risk profile a calendar spread using puts is exactly the same as the risk profile as the same-strike calendar spread using puts, even though intuitively it does not seem like that should be the way it is. If you check a risk profile graph, however, you will see that they are absolutely equivalent.
At that time, I reported that you were better off buying puts rather than calls when you bought near-the-money calendar spreads. That may no longer be true, as I discuss in today’s issue.
Terry
Are Puts Better Than Calls for Calendar Spreads? A long time ago, I wrote that, indeed, puts were better than calls for most calendar spread. At that time, the market was in a “normal” trading mode (with a slight bullish bias), and at that time, put calendar spreads were less expensive than the same-strike call calendar spreads, so I concluded that puts were better choices than calls at that time for near-the-money spreads. (Deep in-the-money calendar spreads are not recommended because of the difficulty of getting decent prices when rolling over the current month options to the next month.) For calendar spreads with strikes well above the stock price, calls are preferred, while puts are preferred for strikes well below the stock price.
Today, things are different. There is a distinct bearish mode out there. Last Friday, the cost of an at-the-money 89 SPY calendar spread (March 2010 – June 2009) with the stock trading at $89 was $5.95 for calls and $7.30 for puts. Clearly, the call spread would have been the better one to buy.
The current-month option prices for puts and calls tend to be equal, so if there is a big difference in the further-out options, you are better off buying whichever is cheaper, puts or calls, when placing an at-the-money calendar spread.
This simple idea could save you thousands of dollars every year if you actively trade calendar spreads as we do at Terry’s Tips.
Any questions? I would love to hear from you by email (terry@terrystips.com), or if you would like to talk to our guy Seth, give him a jingle at 800-803-4595 and either ask him your question(s) or give him your thoughts.
You can see every trade made in 7 actual option portfolios conducted at Terry’s Tips and learn all about the wonderful world of options by subscribing here. Why wait any longer to make this important investment in yourself?
I look forward to having you on board, and to prospering with you.
Terry
Overbought/Oversold as of May 23, 2009
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