Option Spread Trading

Options spread trading consists of trading an option at different strike prices and in some cases the same strike price in different months. One option is bought while the other of the same stock, commodity or index is sold. Both options are either call (price going up) or put (price going down) options.

There are many factors used to determine which options to use in a spread but one of the most used is called the Greeks. The Greeks consist of three different factors involved in making an option spread trade. They are the Delta, Vega and Theta. Delta helps you understand how price changes will affect your spread, Vega explores the effects of volatility and Theta helps you see how time will affect the value of your spread.

There are also many different types or techniques of options spread trading. The three most often used in option spread trades are the vertical, horizontal and diagonal. In each of these three categories there are two different types of trades and they are a credit spread and a debit spread.

In a vertical spread you would sell and option out of the money and buy the same option at even further out of the money in a credit spread and the debit spread would be bought out of the money and sold further out. You are using different strike prices but in the same option month.

Horizontal and diagonal spreads are traded in two different option months. The main difference in the two is that in the horizontal trade you will be trading two different months at the same strike price and in the diagonal will have two different months and two different strike prices. The order in which you buy and sell for each leg is different also.

Option spread trading differs in many ways from regular everyday stock trading. First it gives the trader an opportunity to trade without a huge risk. Another way spread trading is different is that no physical stocks are actually traded. Option spreads can be traded with less capital than is usually needed to trade actual stocks.