Stan Freifeld

Spread Trading: The Versatile Vertical Spread

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This article originally appeared on The Options Insider Web site.

For those of you who are wondering how the terms horizontal and vertical came into common usage, ponder no more. In a typical options chain or montage, the options are typically displayed in the format shown here. Calendar months listed horizontally and strike prices listed vertically.

As I typically like to do, let's start out with a definition.

A vertical spread is an options strategy in which options are bought and an equal number of options of the same type (puts or calls) are sold with different strike prices, but with the same expiration date.

Spread Trading: Bull and Bear Verticals

Vertical spreads are directional strategies, and are either bullish or bearish. This is what the generic expiration graphs look like:

The bull vertical can be constructed with either puts or calls. When it's done with calls, you buy a call and simultaneously sell a call at a higher strike. Since the call with the lower strike price will always be worth more than the call with the higher strike price, a bull vertical will always be established for a debit.

Similarly, a bear vertical can be constructed with puts by buying a put and selling a lower strike put. This construction will also always be done for a debit, since the higher strike put will always be more expensive than the lower strike put. (Learn more about spread trading.)