Buying the Call Vertical = Selling the Put Vertical

Twitter set its IPO price at 26 and pre-opening the market is 45-46. Amazing. The company doesn't make money, has never made money and so what? Buy!! I don't get it... probably why I'm not a billionaire.

OK, on to today's topic. I may not know anything about buying companies without profits, but I do know options. Yesterday I discussed the vertical spread from the buy side, ie a debit spread. Well, you can do the same thing on the credit side by selling a vertical spread.

Let's take a hypothetical index, XXX, trading at 100 and you are bullish with a target price of 110 . Let's say you buy the 100-110 call spread at 4. That means you can lose 4 if XXX is 100 or below and make 6 if XXX is 110 or above. The most the 100-110 call spread can be worth is 10.

Well, if the 100-110 call spread is trading at 4 then the put spread must be trading at 6. Because the combination of the 100-110 call and put spread will always expire at 10.

So, let's say you express your bullish opinion not by buying the call spread at 4, but by selling the put spread at 6. You can make the same 6 points with the stock at 110 or above and lose the same 4 with the stock 100 or below. You see that buying the call vertical spread equals selling the put vertical spread.

All things being equal, given the same risk/reward ratio, wouldn't you rather do a trade that puts money into your account rather than takes money out?

The danger of selling a credit vertical in an individual stock is early assignment, particularly if there is a dividend. Take yesterday's GOOG example, buying the 940-920 put vertical spread at 3. Yes, that is exactly the same as selling the 920-840 call spread at 17. The combination of the 920-940 put and call spread will expire at 20. But, your short vertical credit call spread strategy falls apart if you are assigned early on the 920 call. That makes credit spreads in individual stocks riskier than index options which are European style and cannot be exercised before expiration.

As always, if you have any questions please do not hesitate to contact me.