Calendar spreads are a type of option spread system that involves  buying and selling two different options across two different expiration months.  Traders love to use calendar spread in range bound markets.  A true calendar spread would involve the same strike price for both options.   Some traders prefer to utilize what is called the delta advantage with calendar spreads.  For a call options, recall that the delta of an at the money call is about .50, and the delta increases as the options increase their distance into the money.  So a deep in the money call option would have a delta that approaches 1.0.


There is a substantial difference in the outcome of calendar spreads that are at the same strike vs those that have a delta advantage.  The following examples will better explain the difference.  Consider the following calendar spread examples, using WalMart (arbitrary, not a recommendation!), and today’s closing market prices for the options.  The Optionsxpress Trade Calculator tool is utilized to generate the graphs for these examples.

Example 1 – Purchase (10) Jan 2010 LEAP option on WMT at the 45 strike for $5.65, and SELL (10) July 2009 50 strike options on WM for .47.  This is the delta advantage example.  The profit/loss graph is shown below, as of the July expiration date.

wmt-delta-advantage

Example 2 – Purchase (10) Jan 2010 LEAP option on WMT at the 50 strike for $3.00, and SELL (10) July 2009 50 strike options on WM for .47.  This is the true calendar spread, with no delta advantage.  The profit/loss graph is shown below, as of the July expiration date.

wmt-calendar-spread

Analyzing the Differences – Consider three extreme examples of price movement near the front month expiration of July 17th.

  • Price settles at or near 50 – Both calendar spreads – with and without the delta advantage – do well, and are profitable.   But the delta advantage spread does exhibit a higher profit, as shown above ($1257 vs $854).
  • Price spikes well above 50 – The delta advantage spread remains profitable.   There is still a $321 profit near a price spike to 56.69.  However, with a true calendar spread and no delta advantage, a large upward price movement could be disastrous.  A $1283 loss is realized at a price movement to $57.17.
  • Price drops well below 50 -  The delta advantage loses money.  Notice that a price drop to $45 on July expiration results in a loss of about $2135.  The standard calendar spread – no delta advantage – also loses money on a big price drop but not nearly as much.  Notice that even a price drop to $46.52 only results in a position loss of $738.

The bottom line is that when utilizing calendar spreads, you should analyze the possible outcomes ahead of placing the trade.

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Disclosure: Currently  Long and Short WMT via delta advantage calendar spreads, and covered calls.

Disclaimer:  No accuracy guarantees for anything on this site.  Trade at your own risk!