Long Call Spread – ( Bull Call Spread)

A long call spread, commonly known as a bull call spread, is an options trading strategy adopted by traders who believe that the underlying asset's price will increase modestly. This strategy is done by purchasing a call option with a lower strike price and selling another call option with a higher strike price at the same time with the same expiration date. This strategy tries to decrease the total cost of the position but limits the potential profit at its maximum level

How It’s Assembled

Say you’re contemplating a stock, which is quoted at $50, and expect a moderate jump. You will:

Buy an option to go long on it with a $50 strike when the premium price is $3.
Sell the option to buy it at the $60 price when the premium price is $1.

Expiring at around the same date, usually sometime in a couple of months or so.

Who Should Consider It

This strategy is apt for investors who are bullish about the underlying stock but expect a moderate price rise. It especially appeals to people looking to limit upfront costs and define risk clearly.

Strategy Explained

The Bull Call Spread helps to manage costs as the premium received from selling the higher-strike call offsets the cost of buying the lower-strike call. This spread will result in a net debit to the trader’s account, and this is the maximum loss that the trader will face.

Breakeven Point

The breakeven for a Bull Call Spread is the lower strike plus the net premium paid. In the example above, the breakeven would be:
$50 (lower strike) + $2 (net premium paid, $3 - $1) = $52.

Sweet Spot

The sweet spot for this strategy is when the stock price is at or just above the higher strike price at expiration. This way, the trader can get the maximum profit.

Maximum Profit

For a Bull Call Spread, maximum profit equals the difference of strike prices minus net premium paid. Using the above example, let’s work it out like so:
Maximum Profit = Strike higher - Strike lower - Net premium paid.
= $60 (strike higher) - $50 (strike lower) - $2 (net premium paid) = $8 per share

Max Loss

The worst loss a trader can suffer is the net premium paid, which in this example is $2 per share. This would happen if the stock price is at or below the lower strike price of $50 at expiration.

Risk

The risk is capped at the net premium paid. This is one of the more conservative strategies, as it doesn’t involve the purchase of an outright call option.

Time Decay

This strategy is negatively affected by time decay (theta) if the stock price remains below the breakeven point since the value of both call options would decrease as expiration approaches. However, if the price is near the upper strike price, time decay’s impact is less detrimental since the value of the short call decays at a beneficial rate.

Implied Volatility

Generally, a reduction in implied volatility is adverse for this strategy, since it would reduce the long call price to a greater degree than the short call price. On the other hand, the upward movement in implied volatility will be favorable especially when it is at a later date after spreading.

Conclusion

The Long Call Spread is a low-cost strategy for traders who expect the underlying stock to increase moderately in price. It has a balanced risk-reward profile because it limits both potential profit and potential loss, which makes it a good strategy for conservative traders who prefer defined risk parameters.