Knowing when to invest and how to invest in it can be tricky-even for the experienced trader. When it comes to options trading there are a myriad of strategies that can be used. In our previous articles, we have covered common basic strategies, income strategies, iron condors, butterflies, straddles and strangles used in options trading.
In this article, we take a general look and explain the difference between long, short and reverse calendar spreads, and explore what benefits and risks these strategies present to the trader.
Calendar spreads
A calendar spread involves options with the same strike price but different expirations. Put simply, a calendar spread strategy is used by the trader to open two positions (long and short) on the same underlying asset at the same time - simultaneously buying one options contract and selling the other. However, each contract has different expiry dates with the purpose of minimising the effects of time.
Here is some fundamental terminology you need to know when trading using calendar spreads.
Call option: A contract giving the buyer the right, but not the obligation, to purchase an underlying asset at a set price (strike price), by a specific date (expiration).
Put option: A contract allowing the buyer the right to sell an underlying asset at a strike price before the expiration date.
Long position: Holding an option you bought means you are “long” in that option.
Short position: Selling an option contract you don’t yet own creates a “short” position.
There are three main types of calendar spreads, long, short and reverse. Each provides its own unique strategy objectives.
Long Calendar Spread
Setup: Buy a long-dated option (call or put) and sell a short-dated option with the same strike price.
Objective: Profit from time decay and limited price movement near the strike price.
Market view: Expect low volatility and price stability near the strike price.
Max gain: At expiration of the short option, when the underlying price is near the strike price.
Max loss: Limited to the net debit paid.
Benefit: Profits from time decay of the short option. Limited risk compared to using a long calendar strategy.
Risk: Gains are capped; depends on the price staying near the strike. Requires a specific price movement to maximise profit.
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Short Calendar Spread
Setup: Sell a long-dated option and buy a short-dated option with the same strike price.
Objective: Profit from high volatility or a significant price movement.
Market view: Expecting high volatility.
Max gain: Limited, based on net credit received.
Max loss: Potentially large, depending on price movement.
Benefit: Gains from significant price movements.
Risk: Risk of loss if price stays stagnant.
Reverse Calendar Spread
This strategy is the opposite of a regular calendar spread. This is a high-risk strategy and is typically used by advanced traders. Unlike a regular calendar spread, which profits from time decay (theta), a reverse calendar spread loses value over time due to negative theta. This strategy benefits from a sharp price movement in the underlying asset. Generally, instead of buying a long-term option and selling a short-term option, you do the reverse.
How it works
Sell the longer-term option (farther expiration).
Buy the shorter-term option (closer expiration).
Both options have the same strike price.
When to use a reverse calendar spread
When you expect high volatility in the short term.
If implied volatility (IV) is expected to decrease in the long term.
Profit & loss potential
Max profit: If the stock moves significantly in either direction before the short-term option expires.
Max loss: If the stock stays near the strike price, the short-term option loses value, while the longer-term option retains its premium, leading to a loss.
Summary table of calendar strategies.
Always remember that any investing carries risk and if you aren't sure about something it's best to speak to a financial adviser.
Strategy | Market View | Risk | Reward | Key Feature |
|---|---|---|---|---|
Long Calendar | Low volatility | Limited | Limited | Gains from time decay. |
Short Calendar | High volatility | Potentially large | Limited | Gains from significant moves. |
Reverse Calendar | High volatility | High risk | Unlimited | Benefits from sharp price movement in the underlying stock |
Visit our Options Trading page on the website to explore more opportunities. Join Tiger Trade and practice options trading with no real capital risk by using the Tiger Trade demo account. Plus, if you open and fund an account, you'll get four $0 brokerage monthly trades on either ASX, US stock, ETFs or US options.*
*New clients & unfunded existing clients only. Only min. brokerage waived for 4 ASX, US stocks or ETFs or options trades. Third-party fees and other fees still apply. See T&Cs for details.
Please note that not all option strategies are available on Tiger Trade, however, have been included for education purposes.
Capital at risk. Options trading carries a high level of risk and may not be suitable for all investors. You should only trade with money you can afford to lose. See FSG, PDS, TMD and T&Cs via our website before trading. Information provided may contain general advice without taking into account your objectives, financial situations or needs. Past performance is no guarantee of future results. Graphics and charts are for illustrative purposes only. Tiger Brokers (AU) Pty Limited. ABN 12 007 268 386 AFSL 300767
