Spreads & Defined-Risk Strategies
Buying one option and selling another at the same time — trading away some potential profit for a hard cap on the potential loss.
A spread combines buying one option with selling another, typically at a different strike price but the same expiration. The premium collected from the option sold partially offsets the cost of the option bought, and the combination caps both the maximum possible gain and the maximum possible loss — a fundamentally different risk shape than buying a single option outright.
A bull call spread (one common type) buys a call at a lower strike and simultaneously sells a call at a higher strike, both with the same expiration. The premium received from the short call reduces the net cost of the position, and both the maximum gain and maximum loss become fixed numbers, known in advance, at the moment the trade is placed.
A stock trades at $100. A trader buys a $100-strike call for $500 and sells a $110-strike call for $200, for a net cost of $300. If the stock rises to $115 or beyond by expiration, the position is worth its maximum possible value — the $10 spread between strikes, times 100 shares, or $1,000 — for a $700 net profit ($1,000 minus the $300 paid). If the stock falls below $100 and stays there, both options expire worthless, and the entire loss is capped at exactly the $300 paid, no matter how far the stock falls. Compare this to buying the $100 call alone for $500: the maximum gain is uncapped but requires a bigger move to profit, while the spread caps the gain at $700 in exchange for costing $200 less and needing a smaller move to reach its own maximum profit.
- The defining trade-off of any spread is capped upside in exchange for a lower cost and a precisely defined, smaller maximum loss than buying an option outright.
- "Defined-risk" means exactly that — both outcomes (best case and worst case) are fixed numbers known before the trade is placed, unlike some option-selling strategies with open-ended risk.
- Spreads exist in many variations beyond the vertical call spread shown here (put spreads, calendar spreads, and more) — the underlying logic of trading capped upside for defined, limited risk is the same idea running through all of them.