Disposition: Bearish (time decay)
How it Works
A bear call spread is a type of options strategy used when an options trader expects a decline in the price of the underlying asset. A bear call spread is achieved by purchasing call options at a specific strike price while also selling the same number of calls with the same expiration date, but at a lower strike price.
A bear call spread is also called a short call spread. It is considered a limited-risk and limited-reward strategy.
See example below
Let’s say TSLA is trading at $790 and we expect a decrease in price. We can use a bear call spread by purchasing one call option contract with a strike of $785 for a debit of $2 and by selling one call option contract with a strike price of $775 for a credit of $4. By entering this trade, you will receive a net credit of $200 (4-2). If the price of TSLA closes at or below $775 at expiration, then the total net credit initially received will be kept.
STO 1 TSLA 15JUL MTHLY 775.00 CALLS
BTO 1 TSLA 15JUL MTHLY 785.00 CALLS
Max Profit and Max Loss
Max Profit = $200 (Credit $4 - debit $2)
Max Loss = $8
See calculation below
Scenario 1: What happens if trade closes the above-purchased Strike?
If it closes above the higher strike price of $785 there will be a loss of the difference between the two strikes minus the amount of the credit received when trade was placed. $785 - $775 = $10 ….. $10 - debit of $2 = a total of $8
Scenario 2: What happens if trade closes between strikes at expiration?
If it closes between the two strike prices, there will be a reduced profit. To avoid complexity, closing the position prior to expiration could be a good option. Speak to your broker for more information.
Risk Management & Strategy
Position size: 3 - 5% of your total account value
*Be ok with not being able to take every trade that does not make sense money-wise in relation to your account size
If entering more than 1 contract, exiting a portion of the position as the trade develops (in this case with time getting closer to exp) is a great way to reduce loss and secure profit.
Have a predetermined set amount you are willing to lose and gain (OCO order is a great way to take emotion out of trading)
Pro tip: knowing where there could be support and resistance will help set realistic profit and loss goals
Purchasing shorter-term call contracts with a Trail Stop, if there is a concern of a short-term bull run, could help offset loss if stopped out (Hedging)
Notice the difference between a Bear Put Spread and a Bear Call Spread. You do not receive an initial credit at the time the trade is placed with a Bear Put Spread while with the Bear Call Spread you do.