Maximizing Profits with Debt Spread Call Options: Pros and Cons

Instead, you can consider a cheaper strategy that will provide advantages and protect your disadvantages. The downside is the problem with directional options trades as you can lose the entire cost of the call option. If you are willing to limit some upside to protect the downside, then a debit spread is worth considering.

Example of call charge spread

We use the IT and technology giant Intel Co. NASDAQ: INTC as an example. Further concerns over the widespread loss of domestic semiconductor manufacturing plants hit the stock hard. Intel is working on its AI chips to take on reigning leader NVIDIA Co. NASDAQ:NVDA.

Put on the market

INTC shares are currently trading at $37.30, but we take a bullish position and assume that INTC will recover to $38 by the expiration date of May 3, 2024.

To place the trade, we select the INTC $37/$38 call debit spread for 39 cents. This means we buy the $38 call at $2.02 and sell/short the $37 call at $1.55, leaving a debit of 47 cents.

The potential outcome

There are three potential outcomes for the trade based on INTC stock closing at expiration.

1. THE break-even price on the exchange it is $37.47 per INTC.
2. THE the maximum loss is $47 charge paid to initiate the operation, which triggers a collapse below $37. Both the $37 and $38 calls would expire worthless.
3. THE the maximum profit is $53 based on the strike spread of $1 minus the trade cost of 47 cents for a profit of $53. This is based on the price difference of the $1 spread minus the charge you paid for the trade.

Remember that you don’t have to wait until the deadline to close the trade; you can close the trade early to get profit or loss.

The pros and cons of debt spreads

Trading call debit spreads can both safeguard and limit your investment results. Let’s take a closer look at the advantages and disadvantages associated with using this strategy.

Trading call debit spreads can benefit your investment portfolio:

• Part of the financing of your long call option. Selling the higher strike call provides you with a credit that can be applied to the long call with the lower strike. While the lower call usually tends to be ITM, you can make it OTM for more upside.
• Quantify and minimize downside risk. You can’t lose what you don’t put on your plate. The total loss on your trade is potentially 100%, but it is still much less money than if you simply took the long call.
• Enabling additional operations. The money you would have used to play only the long call will be less after selling the short call. The extra money saved can be used for an extra trade. In the $37/38 INTC call debit spread example, the long $37 call option trade would have cost $2.02 or $202. By selling the $38 call for $1.56, you would end up paying $ 47 instead of $202. Essentially, the long call debit spread on INTC $37/$38 saved you $156. The extra money saved could be used for other trades.

Some of the disadvantages of trading call debit spreads are as follows:

• The maximum profit potential is limited. Your upside and maximum profit are limited. By shortening the ask of the highest strike price, you are limiting your upside in exchange for helping to finance the trade, reducing your out-of-pocket costs.
• The maximum loss may increase with a higher short call price. The more OTM the short call, the less credit you will receive, making options trading more expensive. However, the maximum profit may increase as the spread would widen.
• The maximum loss is still 100% of the investment. If the stock falls below the lowest strike price, both options expire worthless, resulting in a 100% loss of your investment.

When you feel the itch

Call debt spreads can be considered whenever you are feeling bullish on a stock and are considering taking long-term call options. It’s just one more trade that is added by selling the higher strike call. You can always close the position before the expiration date or even continue the trade.

If you want to collect your rewards early, keep an eye out for our next article where we’ll cover call credit spreads.