Calendar spreads are an option trade that involves selling a short-term option and buying a longer-term option with the same strike.
Traders can use calls or puts and they can be set up to be neutral, bullish or bearish with neutral being the most common.
When doing bullish calendar spreads, we typically use calls to minimize the assignment risk. Likewise, if the calendar is set up with a bearish bias, we use puts.
Neutral calendars can use calls or puts, but calls are more common.
Let’s take a look at Barchart’s Long Call Calendar Screener for September 23rd.
I have added a filter for Market Cap above 40b and total call volume above 2,000 to remove small capitalization stocks.
The screener shows some interesting calendar spread trades on popular stocks such as T, VZ, CSCO, PFE, INTC and WMT. Let’s walk through a couple of examples.
AT&T Calendar Spread Example
Let’s use the first line item as an example.
With AT&T stock trading at $21.54, setting up a calendar spread at $20.50 gives the trade a neutral to slightly bearish outlook.
Selling the September 27 call option with a strike price of $20.50 and buying the October 11, $20.50-strike call will cost around $84. That is also the most the trade can lose.
The idea with the trade is that if AT&T stock remains trades around $20.50 for the next few days, the sold option will decay faster than the bought option allowing the trade to be closed for a profit.
Let’s look at another example.
VZ Calendar Spread Example
With VZ stock trading at $44.33, traders could sell the $43-strike September 27 call and buy the $43-strike October 11 call.
That results in a net cost for the trade of $38 per spread, and that is the most the trade can lose.
The breakeven prices for the trade are estimated at around $42 and $44 but these can also change slightly depending on changes in implied volatility.
CSCO Calendar Spread Example
The last example we will look at is on CSCO stock.
With CSCO stock trading at $51.97, traders could sell the $51-strike September 27 call and buy the $51-strike October 4 call.
That results in a net cost for the trade of $32 per spread, and that is the most the trade can lose.
The breakeven prices for the trade are estimated at around $50 and $52 but these can also change slightly depending on changes in implied volatility.
Mitigating Risk
Thankfully, calendar spreads are risk defined trades, so they have some build in risk management. Position sizing is crucial to ensure that minimal damage is done if the trade suffers a full loss.
One way to set a stop loss for a calendar spread is close the trade if the loss is 20-30% of the premium paid.
Calendar spreads can also contain early assignment risk, so be mindful of that if the stock breaks through the short strike and it’s getting close to expiry.
Please remember that options are risky, and investors can lose 100% of their investment.
This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
On the date of publication, Gavin McMaster did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
