The reasoning behind placing a credit spread is different to placing a debit spread. Bear Call Spreads and Bull Put Spreads are credit spreads. They are not as aggressive cause you do not need the share price to move to far in a certain direction for instance a bear call spread profits if the share price goes sideways or fall whereas the bear put spread requires the share price to fall to a certain level for maximum profit. This strategy profits from time decay.
The expected share price movement is neutral to slightly bearish. Selling a call option out-of-the-money you receive premium if the share price is below the sold call option strike price at expiry the premium received is the profit. The bear call spread just means you buy a call at a higher level then you sold the call to cap your risk and indentify you maximum risk rather than having no protection and potentially unlimited risk for a small percentage credit. The reasons for trading bear call spreads are;
- Alternative to naked calls (selling calls with no protection) as you have a predefined profit and loss and a better risk vs. reward ratio.
- Share price outlook may be neutral to slight bearish on the share price due to a resistance level.
- Consider the bear call spread when you are expecting a small fall in the price of the stock.
- The trade of with placing a bear call far out of the money is that the stock price can increase in share price slightly, stay flat or fall to make a profit. So even if you are wrong you can still profit from the trade.
- This strategy can be used to produce income.
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