chapter 5 Strategies using Equity futures and Equity options part 2 l NISM Series 8 l NISM Mock Test

Bullish Vertical Spread using Calls
A bull call spread is created when the underlying view on the market is positive or bullish,
but the trader would also like to reduce the cost of his position. So, he takes one long call
position with a lower strike price and sells a call option with a higher strike. As the lower
strike call costs more than the premium earned by selling a higher strike call, the position
involves a net cash outflow to begin with. Secondly, as the higher strike call is sold, all
gains on the long call beyond the strike price of the short call get negated by losses on the
short call. To capture more profits from his long call, the trader can short a call with as
high a strike price as possible. However, this will result in his cost coming down only
marginally, as the higher strike calls will fetch lesser and lesser premium.
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Bullish Vertical Spread using Puts
Here again, the view on the market is bullish and hence, the trader would like to short a
put option. If the index goes up, the trader will end up with the premium on sold puts.
However, in case of a fall in the index, the trader will face the risk of unlimited losses. In
order to put a floor to his downside, he may buy a put option with a lower strike. While
this would reduce his overall upfront premium, the benefit is the embedded insurance
against unlimited potential loss on short put. This is a net premium receipt strategy.
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Bearish Vertical Spread using calls
Here, the trader is bearish on the market and so he shorts a low strike call with a high
premium. The risk in a naked short call is that if prices rise, losses could be unlimited. So,
to prevent his unlimited losses, he also goes long a higher strike call costing a smaller
premium. Thus, in this strategy, he starts with a net inflow.
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Bearish Vertical Spread using puts
Here, again the trader is bearish on the market and so goes long in one put option by
paying a premium. Further, to reduce his cost, he shorts another low strike put and
receives a premium.
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Horizontal Spread
A horizontal spread involves options of the same type, having the same strike price, but
different expiry dates. This is also known as time spread or calendar spread. Here, it is not
possible to draw the payoff chart as the expiry dates of the underlying options are
different. The rationale for horizontal spreads is that these two options would have
different time values and the trader believes that the difference between the time values
would shrink or widen. This is essentially a bet on the narrowing or widening of the
difference in the premium of the two options.
Diagonal spread
Diagonal spread involves a combination of options on the same underlying but different
expiry dates as well as different strikes. Again, as the two options in the spread have
different maturities, it is not possible to draw payoff diagrams. These are much more
complicated in nature and in execution. These strategies are more suitable for the OTC
market than for the exchange-traded markets.
Straddles
This strategy involves two different types of options (call and put) with the same strike
prices and same maturity. A long straddle position is created by buying a call and a put
option of the same strike and same expiry date whereas a short straddle is created by
shorting a call and a put option of same strike and same expiry date.
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Strategies Using Equity Futures
Equity Options Trading Strategies
Futures and Options Strategies
Hedging with Equity Derivatives
Equity Futures Explained
Options and Futures Trading
Risk Management with Options
Arbitrage with Futures and Options
Bullish and Bearish Options Strategies
Advanced Options Strategies
Equity Derivatives Strategies
Options Spreads and Straddles
Futures Hedging Techniques
Trading Strategies for Futures and Options
Risk Mitigation with Equity Derivatives
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