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Direction |
Bullish |
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Strategy Type |
Capital Gain and long Volatility |
|
Legs |
Sell 1 Low Strike Call |
| |
Buy 2 or more Higher Strike Calls |
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Max Reward |
Unlimited on the upside, limited on the downside to credit received if any. |
|
Max Risk |
Limited to number of Short Calls x difference between strikes - Net Credit or net debit to setup the trade. |
|
Time Horizon |
Can be used in Short and long dated situations |
|
Risk Profile |
High |
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Payoff Diagram
Description
The Call Ratio back spread is designed by combining a credit call spread (moderately bearish strategy) with one or more bought calls (extremely bullish strategy). The net effect is a loss if the stock finishes on expiry day at the maximum loss level of the credit call spread. Eg the bought call strike price.
The strategy is used when an extremely bullish move in a share is expected. The advantage of this strategy is a loss is only made if the share price only rallies moderately. Generally the trade can be structured for a break even or a credit and therefore no loss is made if the shares fall in value.
Steps Involved
Look for volatility skews which allow the trade to be placed for a credit or break even.
Expectation of a large bullish move in the stock.
Sell one low strike call
Buy two or more high strike calls
Rationale
Extremely bullish move is expected, however the trader does not want to make a loss if the share price doesn't move or falls.