Bear (Short) Call Spread
A BEAR CALL SPREAD (short call spread) is a fundamental bearish spread in options trading, composed of two call options with different strike prices that expire in the same month, where a HIGHER call strike is purchased and a LOWER call strike is sold, simultaneously. By combining a long call option (higher strike) with a short call option (lower strike), we are able to create this credit spread. Take a look at the risk profile below for further clarification:
The most basic “bear call spread” is placed when the underlying (i.e. stock) is above both the call strikes, making it an ITM spread. A trader buys a “higher” call strike and pays a debit and concurrently sells a lower call strike and receives a larger credit. Combining the two, the short call spread end up being placed for a “credit”. Take a look at the option chain below, along with the AAPL exmaple to understand this concept.
For example, let’s say that you form a bearish opinion on AAPL (Apple Inc.), currently trading at $210, and decide to place a bear call spread. To enter the trade, you buy a higher call strike (200) and sell a lower call strike (195). For the long 200 call you pay a debit of $11.20, but receive a credit of $15.70 for the short 195 call. This is the entire concept behind a bear call spread, where the option you sell more than covers for the one you buy because its further ITM than the one you buy. Thus, the trade is placed for a credit. In AAPL’s case, you would receive a credit of $4.50.
As APPL stock moves lower, both the call option will lose value and when it passes the short strike by expiration, both call options will contain no “real” value and you will get to keep the entire premium of $4.50.
The maximum profit on a Bear Call Spread is the “credit” received and in this case, the maximum you can make is $4.50 given that AAPL closes below the short strike of 195 by expiration. Once you know the max. profit, the maximum risk is just the total value of the spread minus the credit received.
Max Profit = Credit Received
Max. Risk = Difference between strikes – Credit Received
The breakeven point on bear call spread (short call spread) is calculated by adding the premium received (credit) to the short call strike. For AAPL, the breakeven point would be $195+$4.50 = $199.50. So by expiration, AAPL must be trading below $199.50 for you to make money, but it must close below $195 if you want to keep the entire credit.
Breakeven = Short Call Strike + Credit Received
