What is Bull Call Spread: Strategy, Examples, Adjustment, Risks & Advantages

A bull call spread is a popular derivative trade strategy for options traders to limit their loss while in call options. This bull, Spread, became the trader's famous strategy due to its simple understanding of the strategy, which was very easy to deploy. Let's understand the Bull Call Strategy more deeply in his article with examples.

What is Bull Call Spread?

Bull Call Spread is a popular options trading strategy for stocks or indexes. This spread works by buying and selling call options with the same expiration date but different strike prices, such as ITM, ATM and OTM.

This Bull Call Spread strategy allows traders to profit from a stock’s upward movement while limiting potential losses and gains.

It’s a cost-effective way to gain exposure to a stock’s upside potential without the entire risk of owning the stock outright or buying a single-call option.

How a Bull Call Spread Works

The Bull Call Spread can be traded by following the below steps,

1. Buying a Call Option: Buying a call option at a lower strike price (ITM).
2. Selling a Call Option: Simultaneously selling a call option at a higher strike price (OTM).

The premium paid for the bought call is initially offset by the premium received from the sold call, reducing the overall cost of the trade.

If the stock price rises above the lower strike price, the trader makes some profit, with maximum gains capped at the higher strike price. The risk is limited to the net premium paid.

Example of Bull Call Spread

Let’s consider a stock XYZ, which is trading at 50. You expect it to rise to 60, so you set up a Bull Call Spread with a lot size of 100.

• Buy an XYZ 50 CE for 3
• Sell An XYZ 55 CE for 1
• Net cost: 300 - 100 = 200.

If the stock rises to 60 at the time of expiry

• The XYZ 50 CE is worth 10 (60 - 50), or 1,000.
• The XYZ 55 CE expires at 5 (60 - 55), or 500, which you must pay as the seller.
• Net profit: 1,000 - 500 - 200 (initial cost) = 300.

If the stock stays below 50, both options expire worthless, and your loss is limited to the 200 net premium.

Bull Call Spread Strategy

This strategy shines in markets with a clear bullish trend but limited explosive upside. By selecting strike prices, traders can tailor the trade to their risk tolerance and market outlook.

A wider spread between strike prices increases potential profit and raises the breakeven point, while a narrower spread lowers the cost and risk.

This is ideal for traders like,

• Expecting a moderate increase in the stock price.
• One who Wants to reduce the cost of buying a call option outright!
• Traders who Are comfortable capping their potential upside in exchange for lower risk.

It’s a defined-risk, defined-reward strategy, suitable for disciplined traders prioritising risk management over unlimited profit potential.

Bull Call Spread Adjustment

If the trade moves against you or the stock stalls, adjustments can be made:

• Roll Up: If the stock surges past the higher strike, sell the current spread and open a new one with higher strikes.
• Roll Out: Extend the expiration date if more time is needed for the stock to move.
• Close Early: Exit the position to lock in partial profits or cut losses if the outlook changes.

Adjustments depend on market conditions and your risk appetite.

How to Calculate Bull Call Spread?

A Bull Call Spread is an options strategy used when an investor expects a moderate price rise in the underlying asset. This strategy involves buying a call option at a lower strike price and simultaneously selling one at a higher price. Both options must have the same expiration date.

Steps to Calculate Bull Call Spread:

1. Buy a call option at a lower strike price.
2. Sell a call option at a higher strike price.

Formula:

The maximum profit and loss are determined by the difference between the two strike prices and the premiums paid and received.

1. Max Profit = Difference between strike prices – Net Premium Paid
2. Max Loss = Net Premium Paid before entering into trade.
3. Breakeven Point = Lower Strike Price + Net Premium Paid

Example:

Let’s say a stock is trading at 100, and you expect a rise to 110 next month.

• Buy a Call Option of 100 for a premium of 5.
• Sell a Call Option of 110 for a premium of 2.

Net Premium Paid = Premium Paid for the Long Call – Premium Received for the Short Call.

• Net Premium Paid = 5 - 2
  = 3

Max Profit = Difference between strike prices – Net Premium Paid

• Max Profit = (110 -100) - 3
  = 10 - 3
  = 7

Max Loss = Net Premium Paid

• Max Loss = 3

Breakeven Point = Lower Strike Price + Net Premium Paid

• Breakeven Point = 100 + 3
  = 103

Profit and Loss Scenarios:

• If the stock price rises above 110 during expiry, the maximum profit will be 7.
• If the stock falls below 100 during expiry, the maximum loss is 3.
• If the stock price remains between 100 and 110, the profit/loss will vary depending on where the stock price falls, but the maximum loss will still be limited to the net premium paid which is 3.

Scenarios for a Bull Call Spread

Bullish Outlook:

• Stock is expected to rise steadily but not skyrocket.

Earnings Plays:

• Anticipating a positive earnings report with controlled risk.

Low Capital Commitment:

• When you want exposure to a high-priced stock without buying shares.

Volatility on a Bull Call Spread:

• Volatility impacts this strategy significantly in both directions such as,

Rising Volatility:

• Benefits the bought call more than the sold call, potentially increasing the spread’s value.

Falling Volatility:

• Hurts the position, as the net premium may lose value.
• Traders often enter Bull Call Spreads when implied volatility is low, as it reduces the cost of entry.

Impact of Time on a Bull Call Spread

Theta (Time decay) works against the Bull Call Spread because it erodes the value of the bought call faster than the sold call. The closer to expiration, the less time there is for the stock to move, increasing the risk of loss if the stock remains below the breakeven point. Ideally, execute this strategy with enough time (30-60 days) for the stock to reach its target.

Pros and Cons of a Bull Call Spread

Pros:

Cons:

Conclusion

The Bull Call Spread is a limited loss and beginner-friendly options strategy for traders with a moderately bullish outlook. Balancing risk and reward offers a controlled way to profit from upward stock/Index movements without the high stakes of outright stock/Index ownership or naked options. Whether navigating earnings seasons or betting on steady growth, mastering the Bull Call Spread can enhance your trading toolkit just be mindful of volatility, time decay, and your market timing.

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