Investment Type: credit/debit
Strike Prices: OTM for bought leg, further OTM for sold leg
Expiration Month: Same expiration month between sold leg and bought leg, preferably current month.
Composition: Sell Call (more contracts) + Buy Call (less contracts)
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This strategy is the opposite of Call Ratio Backspread. Therefore we have unlimited risk and limited reward. The key to this strategy is the ratio between sold leg and bought leg. Think of this strategy as Selling higher strike Naked Call with added security of a Buy Call with lower strike in case if the stock rises. Number of contracts on sold leg has to be bigger than bought leg and both legs are on the same expiration date. Common ratios are 2:1 and 3:2 (3:1 and 4:1 will have more probability ending up in net credit and more risks).
We will achieve the maximum profit provided that the stock’s price is between the two strike prices of bought leg and sold leg (or if the stock’s price stays at strike price of bought leg) at the expiration day.
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Entry:
Investment @ Entry = (Premium of Sold Leg x No of Contracts x 100 Shares) + (Premium of Bought Leg x No of Contracts x 100 Shares) = ($2,000) + $4,000 = $2,000
Breakeven Point Down= Strike Price of Bought Leg + Net Debit = $35.00 + $0.40 = $35.40
Exit:
Best Case Scenario:
Profit @ Exit = (Premium of Sold Leg x No of Contracts x 100 Shares) + (Premium of Bought Leg x No of Contracts x 100 Shares) – Investment @ Entry = $0 + $12,500 - $2,000 = $10,500
Return of Investment = Profit @ Exit / Investment @ Entry = 525%
Worst Case Scenario : Unlimited Loss
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