Let’s say I buy an open ended call as my initial entry. For example, I purchase a NVDA 125 April 17th 2025 CALL contract for $12.00 in premium. At this point, my account is debited $1200 for the purchase. And then later down the line I decide to sell the NVDA 135 April 17th 2025 CALL contract for $10.00 in premium. By doing so I’ve effectively created a NVDA 125-135 April 17th 2025 vertical call spread. The effective cost of the spread is now $200 ($1200 – $1000).
Is the credit received from selling the NVDA contract usable in my brokerage account as cash (e.g. to purchase other equities)? Or, is the credit received just absorbed into the spread and just adjusts the cost basis, profit %s, etc.? Is this different at all compared to when I sell covered calls against stock positions?
My brokerage account is with Charles Schwab, if that matters at all.
Yes. It’s totally usable in every way. You can even withdraw the capital. When purchasing a call-spread, it’s considered a synthetic asset and the cost of that asset is what you paid for it.
For example, in Baratheon we have the Nvidia April $125 – $140 call-spread at a cost of $0.70 x 1 contract. That’s $70.00 total. That’s the total amount we’ve committed to the trade and that’s all we have at risk.
So yeah, once you sell premium against a position, we’ve reduced the risk completely and can use the capital however you see fit. No restraints of any kind.
Question regarding vertical call spread widths. I’ve noticed you tend to favor a $10 spread width for the vast majority of the option trades you’ve opened up.
Is there any rationale behind this? Experience? Best risk-to-reward profile? Do you have a general mental framework for deciding appropriate strikes and expiration dates for shorter / intermediate term type vertical call spread trades?
Partly experience and partly cost. Sometimes we opt for $20.00 spreads. But to get the SAME percentage returns on a $20 spread, we have to do DOUBLE the allocation. For example, a $10.00 spread that costs $3.00 will typically cost $6.00 on a $20.00 spread equally out of the money.
Let’s suppose we have a $5,000 portfolio. If we buy 1 contract in a $3.00 costing spread ($10 width) we’ve allocated only $300 to the trade. if we buy a $20.00 spread, we’ll have to pay $600 which is DOUBlE the allocation.
So a lot of it has to do with that. The ability to control the allocation amount.
In terms of strikes, you have to consider how much of a return we’ll get as the underlying moves up. If we buy a $10.00 spread of $5.00 and there’s 3-4 months until expiration, then our gains are really going to be capped. Why? Because that spread will never go to full value no matter what. Not until we get to expiration. And the further away we are to expiration, the more that spread will reach an inherent cap at like $8.00.
But a $2.20 cost or a $3.00 cost has the distinct ability to double in value on the rebound. So for example, today, our QQQ May $540-$550 call-spread costs $2.20 or there about. If the QQQ rallies to $520 a share in the next couple weeks — being $20.00 out of the money from the lower strike — that spread will double in value to $4.00+. The $520-$530’s trade at $4.15 right now.
So consider that for a moment. The $540-$550’s would likely rise from $2.20 to $4.15 or 91% from where they are right now on a $20.00 rebound.
Okay. Now let’s consider the $500-$510 call-spread. Just $10 ahead. That spread is trading at $5.70 at the mid-price. Let’s see what happens when they’re $10.00 in the money i.e. what happens if the QQQ rebounds to $520. Remember, the $540-$550’s go up 90%.
Now let’s compare to the $500-$510’s. If we do a quick comparison to the $480-$490 May call-spread — which are $10.00 in the money, they’re trading at $7.23 mid-price. That’s a mere $1.50 gain. That’s all the $500-$510’s will go up in value if the QQQ rebounds $20.00 form here or 26%.
See the difference? If one buys the $540-$550 May call-spread, they rise 90% on a QQQ rebound up to $520. But a slight out of the money spread will only go up a mere 26%.
And that gets better the further out you go. The $510-$520 spread will perform better than the $500-$510 but still fall way short of the $540-$550’s.
Now there is a point where you can go too high and not get a return. I’ve found that the cut-off is at $1.00. If a spread is only worth $1.00, then you start to really take on risk of reduced return on a rebound.
The reason it works for Nvidia is because the company is extremely volatile. But even at $1.00, you’ll end up making a better return than a spread that is just out of the money.
And this is due to the inherent ceiling on the gains. Like I said, the spread won’t go to $10.00 if we still months to go until expiration. So at best you might be able to exist at $9.50-$9.70 for a spared that is deep deep in the money.
Thus, a spread that costs $5.70 sucks until you plan to hold it to expiration. The sweet spot is $2.25 to $3.30. That’s 300-400% yield at expiration. Those spreads give you the best of all worlds. You get the shield against theta decay and volatility crush while being able to produce huge returns on a rally.
What I’ve learned after getting my ass kicked so many times by theta decay and IV crush is that it’s the $2-$3 costing $10.00 spread that is the best way to capitalize on a move while giving yourself a VERY WIDE berth. Look at this week for example. We made our first big purchases when the QQQ was at $521. Had we done this with calls instead of spreads, we’d be knocked out already. Done. Thanks for coming. No pass go. Done. Instead, we’re positioned to still produce a huge return if things play out as expected.
As of the writing of this question (2/26/2025) there have been a fair amount of repeated questions in the Daily Briefing articles about open ended calls vs. bull call spreads. I’m sure it’s slightly repetitive to continuously answer these type of questions so I’m re-asking the question here for future subscribers to reference. In prior chapters you introduce us to various financial instruments that provide inherent leverage, namely open ended call options and DITM leap call options. In Chapter 4 you build upon this list and introduce the concept of a vertical bull call spread as another option in our proverbial “inherent leverage” tool box.
Today is a perfect lesson on why we bought spreads and not calls. Spreads give us tremendous flexibility. We can sit on these positions for a long time and once the market reaches our targets, our spreads perform. With calls you have theta decay and iv crush both impacting returns. With spreads, they perform BETTER as time wears on. If the QQQ rallies to $545 in April, our speeds performs better than if it rallies to $545 tomorrow. They will actually be worth more at $545 in April than at $545 today. The exact opposite is true with call options.
Can you provide some insight on your mental process for deciding the correct tool to use and compare the pros and cons of each (ex: relationship with theta decay, velocity of value appreciation, relationship with changes in IV, etc.)?
Nice put together. Thanks Derek. This is a good question. So first let me say the thing that keeps me up at night MOST the it comes to my subscribers is the idea that anyone would think that call options could be used in a situation where we’ve chosen to buy call-spreads.
It is the absolute WORST IDEA anyone could ever have. I mean the absolute worst. There is no worse investment mistake that can be made here.
Spreads ARE NOT the same as calls and they simply do not behave anywhere close to the same way. There are extremely limited circumstances where open ended calls are warranted. EXTREMELY LIMITED. I cannot stress this enough.
Investing in near-term open ended calls is the easiest way to destroy your entire wealth and trading in them carries immense risk. We’re talking risk on the order of several magnitudes more than investing in call-spreads. Here is why this is the case. We posted about this in yesterday’s (February 26th) daily briefing, but I’ll try to expand on it. And we’ll discuss this in Chapter 4.5.
The Impact of Theta Decay & volatility crush
Let’s consider trades we’re making right now this very minute. We bought the May 16, 2025 $540-$550 call-spread. Our first entry into that position was on Monday, February 24, 2025. That’s a mere 4 days ago on Monday. We paid $4.10 for that spread.
Leg 1: Buy to Open May $540 Calls @ $12.36 Leg 2: Sell to open May $550 Calls @ $8.26 Total: $4.10
Now let’s compare the impact of Theta decay on ONLY the $540 calls which cost $12.36. Suppose we decided to just buy the $540 calls instead of the call-spread.
First off, the May $540 calls are trading at $5.64. The are down 55%. The spread is down to $2.20 a contract which is down 46%. It’s not massively better here.
But where the spread performs is in how it’s priced if the QQQ takes a long time to recover. Suppose the QQQ hangs around down here for a month and the QQQ finally makes a move up to $520 a share — where it was earlier in the week.
If that happens, the $540-$550 call-spread would rally back to around $3.50-$3.60 per contract. We’d be down marginally. With the QQQ $20.00 out of the money and with 2-months until expiration, that’s about where the spread would trade at $520 a share.
The $540 calls would not recover like that. In fact, The $540 calls would likely trade at $7-$8 per contract at best on that recovery. They’d be down 40-50% straight up even though we’ve returned back to where we were when we bought them.
Worse yet, suppose times wears on and we eventually get to $545 a share with 2-3 weeks left until expiration. If that happens, our call-spread would be money. For example, the March 14, 2025 $495-$505 call-spread trades at $5.98. That’s up 46% from OUR original cost. From our very first entry, they’d be up 46%. Now compare that to the $540 calls. In this same scenario, the $540 calls would only trade at around $14.40-$14.50. They’d be up a mere 17%. Just outside he money with the QQQ trading at $540 exactly with 2 weeks remaining until expiration, the $540’s would be worth $11.31 — in the red. The $540-$550 call-spread would trade at $5.00 up 20%.
But the worst part about this is time-distance parameters. If the QQQ continues to fall, the spreads will recover on a rebound more easily than would the calls. Especially if there’s volatility crush involved. When one dollar cost averages, they do so at elevate prices so that when the QQQ then eventually rebounds, the return is lower overall. Not the case with spreads. What you see is what you get. If we add to our spread down near $490-$500 range, we can be confident they’re not overvalued due to big increase in volatility.
These are just my unorganized thoughts. I’ll add this to an actual tab in Chapter 4.5.
——
The areas where we like long calls are in situations where we feel liek the option is undervalued relative to the size of the move we’re expecting (rare situations); or when buying our core long-term positions where we want to sell premium against our position. The reason calls work for long-term positions is because it allows of potentially unlimited upside. And over long periods of time, the market and other assets have the potential to rise substantially. When you buy a spread, you’re capping those gains.
In the near-term, we’re not expecting unlimited upside and so capping the gains make sense. We’re trading off unlimited upside for flexility.
The areas where we like long calls are in situations where we feel liek the option is undervalued relative to the size of the move we’re expecting (rare situations)
Yeah, so on Friday when we bought the Amazon calls, I was happy with the pricing on those calls. They seemed relatively cheap compared to Amazon’s price movements. With a rebound I feel pretty confident those will go up in value. So we went ahead and bought the open ended call.
What would I need to do to determine “cheapness” so I can determine if an open ended call is right for me? Or maybe spreads is mostly the way to go if your time horizon is intermediate term?
Another question for
But the worst part about this is time-distance parameters. If the QQQ continues to fall, the spreads will recover on a rebound more easily than would the calls. Especially if there’s volatility crush involved. When one dollar cost averages, they do so at elevate prices so that when the QQQ then eventually rebounds, the return is lower overall.
Can you elaborate on why the return lower overall? Are you saying if you dollar cost average with open ended calls during a correction you’re purchasing at elevated prices due to the elevated IV environment? Wouldn’t the elevated IV environment still be in place upon the rebound though? Maybe I don’t understand what causes IV to fluctuate well enough.
malveen chew
March 27, 2025 10:49 pm
Hi,
I have a question, probably a silly one.
Let’s say if I hold a deep ITM vertical call spread until the expiration day.
let’s say its NVDA 85-95 coming to full value usd1000 on the expiration day.
do I need to have a certain amount of cash in the account when its being auto-exercised?
Last edited 8 months ago by malveen chew
malveen chew
April 8, 2025 9:30 pm
Hi Sam,
2-year expiry DITM option call VS 1-year call spread strategy
Could you list some of the pros & cons between these two?
Also, why not 2-year call spread strategy instead of 1-year if we are going for long term?
I hope you can find time to answer some of these (if you are allowed to)
Joey
May 11, 2025 7:19 pm
Hey Sam, what’s your approach to choosing strike prices for vertical spreads with 2+ year expirations?
Hi Sam!
Let’s say I buy an open ended call as my initial entry. For example, I purchase a NVDA 125 April 17th 2025 CALL contract for $12.00 in premium. At this point, my account is debited $1200 for the purchase. And then later down the line I decide to sell the NVDA 135 April 17th 2025 CALL contract for $10.00 in premium. By doing so I’ve effectively created a NVDA 125-135 April 17th 2025 vertical call spread. The effective cost of the spread is now $200 ($1200 – $1000).
Is the credit received from selling the NVDA contract usable in my brokerage account as cash (e.g. to purchase other equities)? Or, is the credit received just absorbed into the spread and just adjusts the cost basis, profit %s, etc.? Is this different at all compared to when I sell covered calls against stock positions?
My brokerage account is with Charles Schwab, if that matters at all.
Yes. It’s totally usable in every way. You can even withdraw the capital. When purchasing a call-spread, it’s considered a synthetic asset and the cost of that asset is what you paid for it.
For example, in Baratheon we have the Nvidia April $125 – $140 call-spread at a cost of $0.70 x 1 contract. That’s $70.00 total. That’s the total amount we’ve committed to the trade and that’s all we have at risk.
So yeah, once you sell premium against a position, we’ve reduced the risk completely and can use the capital however you see fit. No restraints of any kind.
Question regarding vertical call spread widths. I’ve noticed you tend to favor a $10 spread width for the vast majority of the option trades you’ve opened up.
Is there any rationale behind this? Experience? Best risk-to-reward profile? Do you have a general mental framework for deciding appropriate strikes and expiration dates for shorter / intermediate term type vertical call spread trades?
Partly experience and partly cost. Sometimes we opt for $20.00 spreads. But to get the SAME percentage returns on a $20 spread, we have to do DOUBLE the allocation. For example, a $10.00 spread that costs $3.00 will typically cost $6.00 on a $20.00 spread equally out of the money.
Let’s suppose we have a $5,000 portfolio. If we buy 1 contract in a $3.00 costing spread ($10 width) we’ve allocated only $300 to the trade. if we buy a $20.00 spread, we’ll have to pay $600 which is DOUBlE the allocation.
So a lot of it has to do with that. The ability to control the allocation amount.
In terms of strikes, you have to consider how much of a return we’ll get as the underlying moves up. If we buy a $10.00 spread of $5.00 and there’s 3-4 months until expiration, then our gains are really going to be capped. Why? Because that spread will never go to full value no matter what. Not until we get to expiration. And the further away we are to expiration, the more that spread will reach an inherent cap at like $8.00.
But a $2.20 cost or a $3.00 cost has the distinct ability to double in value on the rebound. So for example, today, our QQQ May $540-$550 call-spread costs $2.20 or there about. If the QQQ rallies to $520 a share in the next couple weeks — being $20.00 out of the money from the lower strike — that spread will double in value to $4.00+. The $520-$530’s trade at $4.15 right now.
So consider that for a moment. The $540-$550’s would likely rise from $2.20 to $4.15 or 91% from where they are right now on a $20.00 rebound.
Okay. Now let’s consider the $500-$510 call-spread. Just $10 ahead. That spread is trading at $5.70 at the mid-price. Let’s see what happens when they’re $10.00 in the money i.e. what happens if the QQQ rebounds to $520. Remember, the $540-$550’s go up 90%.
Now let’s compare to the $500-$510’s. If we do a quick comparison to the $480-$490 May call-spread — which are $10.00 in the money, they’re trading at $7.23 mid-price. That’s a mere $1.50 gain. That’s all the $500-$510’s will go up in value if the QQQ rebounds $20.00 form here or 26%.
See the difference? If one buys the $540-$550 May call-spread, they rise 90% on a QQQ rebound up to $520. But a slight out of the money spread will only go up a mere 26%.
And that gets better the further out you go. The $510-$520 spread will perform better than the $500-$510 but still fall way short of the $540-$550’s.
Now there is a point where you can go too high and not get a return. I’ve found that the cut-off is at $1.00. If a spread is only worth $1.00, then you start to really take on risk of reduced return on a rebound.
The reason it works for Nvidia is because the company is extremely volatile. But even at $1.00, you’ll end up making a better return than a spread that is just out of the money.
And this is due to the inherent ceiling on the gains. Like I said, the spread won’t go to $10.00 if we still months to go until expiration. So at best you might be able to exist at $9.50-$9.70 for a spared that is deep deep in the money.
Thus, a spread that costs $5.70 sucks until you plan to hold it to expiration. The sweet spot is $2.25 to $3.30. That’s 300-400% yield at expiration. Those spreads give you the best of all worlds. You get the shield against theta decay and volatility crush while being able to produce huge returns on a rally.
What I’ve learned after getting my ass kicked so many times by theta decay and IV crush is that it’s the $2-$3 costing $10.00 spread that is the best way to capitalize on a move while giving yourself a VERY WIDE berth. Look at this week for example. We made our first big purchases when the QQQ was at $521. Had we done this with calls instead of spreads, we’d be knocked out already. Done. Thanks for coming. No pass go. Done. Instead, we’re positioned to still produce a huge return if things play out as expected.
Hi Sam,
As of the writing of this question (2/26/2025) there have been a fair amount of repeated questions in the Daily Briefing articles about open ended calls vs. bull call spreads. I’m sure it’s slightly repetitive to continuously answer these type of questions so I’m re-asking the question here for future subscribers to reference. In prior chapters you introduce us to various financial instruments that provide inherent leverage, namely open ended call options and DITM leap call options. In Chapter 4 you build upon this list and introduce the concept of a vertical bull call spread as another option in our proverbial “inherent leverage” tool box.
In your closing remarks in the February 25th, 2025 Daily Briefing article (https://sam-weiss.com/big-market-rebound-likely-to-start-today-or-tomorrow/) you briefly mention the benefits of bull call spreads
Can you provide some insight on your mental process for deciding the correct tool to use and compare the pros and cons of each (ex: relationship with theta decay, velocity of value appreciation, relationship with changes in IV, etc.)?
Nice put together. Thanks Derek. This is a good question. So first let me say the thing that keeps me up at night MOST the it comes to my subscribers is the idea that anyone would think that call options could be used in a situation where we’ve chosen to buy call-spreads.
It is the absolute WORST IDEA anyone could ever have. I mean the absolute worst. There is no worse investment mistake that can be made here.
Spreads ARE NOT the same as calls and they simply do not behave anywhere close to the same way. There are extremely limited circumstances where open ended calls are warranted. EXTREMELY LIMITED. I cannot stress this enough.
Investing in near-term open ended calls is the easiest way to destroy your entire wealth and trading in them carries immense risk. We’re talking risk on the order of several magnitudes more than investing in call-spreads. Here is why this is the case. We posted about this in yesterday’s (February 26th) daily briefing, but I’ll try to expand on it. And we’ll discuss this in Chapter 4.5.
The Impact of Theta Decay & volatility crush
Let’s consider trades we’re making right now this very minute. We bought the May 16, 2025 $540-$550 call-spread. Our first entry into that position was on Monday, February 24, 2025. That’s a mere 4 days ago on Monday. We paid $4.10 for that spread.
Leg 1: Buy to Open May $540 Calls @ $12.36
Leg 2: Sell to open May $550 Calls @ $8.26
Total: $4.10
Now let’s compare the impact of Theta decay on ONLY the $540 calls which cost $12.36. Suppose we decided to just buy the $540 calls instead of the call-spread.
First off, the May $540 calls are trading at $5.64. The are down 55%. The spread is down to $2.20 a contract which is down 46%. It’s not massively better here.
But where the spread performs is in how it’s priced if the QQQ takes a long time to recover. Suppose the QQQ hangs around down here for a month and the QQQ finally makes a move up to $520 a share — where it was earlier in the week.
If that happens, the $540-$550 call-spread would rally back to around $3.50-$3.60 per contract. We’d be down marginally. With the QQQ $20.00 out of the money and with 2-months until expiration, that’s about where the spread would trade at $520 a share.
The $540 calls would not recover like that. In fact, The $540 calls would likely trade at $7-$8 per contract at best on that recovery. They’d be down 40-50% straight up even though we’ve returned back to where we were when we bought them.
Worse yet, suppose times wears on and we eventually get to $545 a share with 2-3 weeks left until expiration. If that happens, our call-spread would be money. For example, the March 14, 2025 $495-$505 call-spread trades at $5.98. That’s up 46% from OUR original cost. From our very first entry, they’d be up 46%. Now compare that to the $540 calls. In this same scenario, the $540 calls would only trade at around $14.40-$14.50. They’d be up a mere 17%. Just outside he money with the QQQ trading at $540 exactly with 2 weeks remaining until expiration, the $540’s would be worth $11.31 — in the red. The $540-$550 call-spread would trade at $5.00 up 20%.
But the worst part about this is time-distance parameters. If the QQQ continues to fall, the spreads will recover on a rebound more easily than would the calls. Especially if there’s volatility crush involved. When one dollar cost averages, they do so at elevate prices so that when the QQQ then eventually rebounds, the return is lower overall. Not the case with spreads. What you see is what you get. If we add to our spread down near $490-$500 range, we can be confident they’re not overvalued due to big increase in volatility.
These are just my unorganized thoughts. I’ll add this to an actual tab in Chapter 4.5.
——
The areas where we like long calls are in situations where we feel liek the option is undervalued relative to the size of the move we’re expecting (rare situations); or when buying our core long-term positions where we want to sell premium against our position. The reason calls work for long-term positions is because it allows of potentially unlimited upside. And over long periods of time, the market and other assets have the potential to rise substantially. When you buy a spread, you’re capping those gains.
In the near-term, we’re not expecting unlimited upside and so capping the gains make sense. We’re trading off unlimited upside for flexility.
Wow, thanks Sam! This was very insightful 🙂
Hmm, how do you determine if the option is “undervalued”? I remember you mentioning this when you purhcased your AMZN 220 MAY 2025 open ended calls in your Baratheon portfolio (purchased in https://sam-weiss.com/daily-briefing-a-slow-friday-as-stocks-continue-to-consolidate-at-all-time-highs/) on Feb 21st 2025. You mentioned your reasoning in this comment (https://sam-weiss.com/big-trading-opportunities-emerge-on-fridays-sharp-sell-off/#comment-2176)
What would I need to do to determine “cheapness” so I can determine if an open ended call is right for me? Or maybe spreads is mostly the way to go if your time horizon is intermediate term?
Another question for
Can you elaborate on why the return lower overall? Are you saying if you dollar cost average with open ended calls during a correction you’re purchasing at elevated prices due to the elevated IV environment? Wouldn’t the elevated IV environment still be in place upon the rebound though? Maybe I don’t understand what causes IV to fluctuate well enough.
Hi,
I have a question, probably a silly one.
Let’s say if I hold a deep ITM vertical call spread until the expiration day.
let’s say its NVDA 85-95 coming to full value usd1000 on the expiration day.
do I need to have a certain amount of cash in the account when its being auto-exercised?
Hi Sam,
2-year expiry DITM option call VS 1-year call spread strategy
Could you list some of the pros & cons between these two?
Also, why not 2-year call spread strategy instead of 1-year if we are going for long term?
I hope you can find time to answer some of these (if you are allowed to)
Hey Sam, what’s your approach to choosing strike prices for vertical spreads with 2+ year expirations?