# Bull Call Spread Example (Options)

 By: Glenn Dove
 Written on 15th February 2008 (see below for further updates) I thought I’d provide an example of a Bull Call Spread (BCS) using the Commonwealth Bank as an example. There is a lot of volatility in the market at the moment. If you have studied my course then you will know that high volatility is a great advantage for the Option Seller – a decrease in implied volatility means a decrease in the Option premium – but let’s get back to this example! Since making a high around \$62.00 in November 2007 CBA has spent the last few months falling to its current price of \$47.00. Can it go lower? Is this the bottom? I have no idea! Instead of buying the stock and watching it plummet even lower let’s look at a strategy where we know EXACTLY what our MAXIMUM risk and MAXIMIM profit is – a Bull Call Spread. When you BUY a CALL Option your view is that the underlying Stock will rise. So with CBA closing last night (14th Feb) at \$47.05 you might to decide to BUY a CALL Option with a Strike price of \$48.00 that expires on the 27th March 2008. The quoted price for this option is \$1.69. If you bought 2 contracts it would cost you 2,000 @ \$1.69 = \$3,380 (plus brokerage). In 10 days time if the stock price increased by 4% to \$48.93 the Option price would be somewhere around \$2.15. You could then Sell the CALL Option and profit \$920 or around 27%. To reduce the cost of Buying the CALL Option you can SELL a CALL Option at a higher strike price. Building on the above example you would SELL 2 March CALL Options at a strike price of \$51.00 and receive a premium of \$0.71 which means you receive 2,000 @ \$0.71 = \$1,420. So your total cost would be the price that you paid for the contracts that you bought (\$3,380) less the money that you received for the Options you sold (\$1,420). Total Cost \$1,960. The advantage is that you are reducing the cost of entering the trade. The disadvantage is that you are limiting your profit to the upside if CBA trades above \$51.00. I like the Bull Call Spread trade because you know your maximum profit and maximum loss before you enter the trade. The best way to view this is via a picture (listed on the next page). Please note that this trade is purely for educational purposes only. I’ll send an update of this trade in a week or two to see how it would be progressing. If you have any questions you are more than welcome to send me an email glenn@optiontrader.com.au.Cheers Glenn Dove www.optiontrader.com.au Update written on 22nd February 2008 It’s always worth reviewing your trades especially when you trade Options. One week ago I provided an example of a Bull Call Spread Option strategy on CBA shares. At the time of the Option trade CBA was trading @ \$47.05 and we had entered a long position. How would we be going on the 22nd February with the price of CBA trading at \$42.40? The trade has not gone in the direction that we wanted but there’s a lot we can learn from this type of strategy. The Bull Call Spread (BCS) that we entered entitled us to Buy 2,000 CBA shares @ 48.00 and to sell 2,000 CBA shares at a maximum price of \$51.00 anytime before 27th March. The total cost of the BCS position was \$1,960.