I get how a short calendar spread using calls differs from a long one using puts, but under what circumstances would you use each one?
A short calendar spread with calls is when you think all the volatility is on the first half of the calendar spread so you go “long” a call on the first part (the short time period) and you sell a call on the longer time period to collect premium there because you think after the first period ends the stock will stabilize and the option will pay you the premium with low chance of being exercised.
A long put calendar spread has the opposite thesis. You think the stock will be stable during the first part (the shorter time period) so you sell a put to collect premium. But you think after the first period ends, the stock will be far more volatile so you buy the put option covering the “longer” time period.
So the difference between the 2 is based on when you think the volatility will be (so when you need the option) and when you think the volatility “won’t” be (when you sell the option). If you think the volatility will be in the longer period, then you do a long calendar spread. If you think the volatility will be in the shorter time frame, you do a short calendar spread.
The choice between calls and puts for the calendar spread is based on your bullish or bearish view of the stock generally.
The choice of long or short calendar spread is separate from that - it’s based on where you predict the volatility will occur. You buy the option for the period where you think the volatility will be and you sell the option for the period where you think the stock will be stable and you’re just milking the cow by collecting a premium.
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Ahh legend. That makes more sense now
So in the following circumstances:
-Low volatility in short term & high volatility long term + bullish = long calendar spread using calls?
-Low volatility in short term & high volatility long term + bearish = long calendar spread using puts?
-High volatility in short term + bullish & low volatility in long term = short calendar spread using calls?
-High volatility in short term + bearish & low volatility in long term = short calendar spread using puts?
Thank you
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This is my understanding and how I will approach the exam questions if they ask about this. Cheers good luck!
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Yep I think that makes. Very best of luck to you too!
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