by Don Fishback

Vertical Debit Spread

A vertical debit spread results when simultaneously buying and selling puts or calls of the same option class and expiration date, but with different strike prices.  Because it is a debit (net cash paid out), the option purchased is more expensive than the option sold.  In other words, the option purchased is closer-to-the-money than the option sold, resulting in a bull call spread or bull put spread.  The maximum amount that can be earned on a Vertical Debit Spread is the difference between the strikes less the amount of the premium paid out.  The maximum risk is the amount of premium paid out.

Call Debit Spread

As an example, assume that you are bullish and decide to establish a bull call spread in GOOG options.  The June 480 call is trading at 18.60 and the June 490 call is trading at 13.40.  You decide to enter the spread but do not want to pay more than the current price spread, 5.20 (purchase the 480 @ 18.60, sell the 490 @ 13.40).

To enter an option (call or put) Vertical Debit Spread you will need to provide the following information:

1.Account Number:12345
2.Market Action:Buy/Sell
3.Quantity:3
4.Month & Year:June, 20-
5.Contract:GOOG 480 call
GOOG 490 call
6.Order Type:Limit
7.Open or Close:Open
8.Price:5.20

Enter the order as follows:

ACCOUNT 12345

BUY 3 JUN GOOG 480 CALLS to OPEN

SELL 3 JUN GOOG 490 CALLS to OPEN

At 5.20 DEBIT

The order was placed as a limit order at 5.20 (per spread) and each spread will be filled at a net price of 5.20 or better (less expensive).  The order tells the broker to spread the 480/490 strikes at a net price of 5.20, and to do it 3 times.  Since the order was placed as a spread it must be filled as a spread.  That means that the broker can not buy all 3 of the 480 calls and sell only 1 or 2 of the 490 calls.  When liquidating the position, the order can go in as a spread or as individual options.

500 Strike

490 Strike Sell Calls

480 Strike Buy Calls

470 Strike

460 Strike

Put Debit Spread

As an example of a put debit spread, assume that now you are bearish and decide to establish a bull put spread by buying the September 500 GOOG puts and selling the September 480 GOOG puts.  The 500 puts traded last at 51.30; the 480 puts at 39.90.

To enter an option (call or put) Vertical Debit Spread you will need to provide the following information:

1.Account Number:12345
2.Market Action:Buy/Sell
3.Quantity:1
4.Month & Year:September, 20-
5.Contract:GOOG 500 put
GOOG 480 put
6.Order Type:Market
7.Open or Close:Open

Enter the order as follows:

ACCOUNT 12345

BUY 1 SEP 500 GOOG PUT to OPEN SELL 1 SEPT 480 GOOG PUT to OPEN at MARKET

By placing a market order we cannot be sure that the spread will be 11.40, but we do know that we will be filled as soon as possible at the best possible price for the spread.  We know it will be a debit because we are buying the more expensive, closer-to-the-money option.

510 Strike

500 Strike Buy Puts

490 Strike

480 Strike Sell Puts

470 Strike