A call bear spread is a popular options trading strategy used by investors who anticipate a decrease in the price of an underlying asset. This strategy involves buying a call option with a higher strike price and simultaneously selling a call option with a lower strike price, allowing for limited risk with potential profit.
A call bear spread can also be part of an iron condor strategy, where the opposite side is a bull put spread. I typically trade call bear spreads either as part of an iron condor or on stocks I own but haven’t fully covered (less than 100 shares).
For instance, I traded a call bear spread on Amazon stock while owning only 19 shares. I opted for a call bear spread instead of selling a naked call because of the limited risk. If I had 100 shares, I would have preferred selling a covered call instead.
In this article, I'll share an example of how to adjust a call bear spread.
Initial Trade Setup
In early March 2023, Amazon stock was trading around $93. I opened the following call bear spread:
- Sold 1 AMZN MAR 31 '23 105 Call Option for $0.62
- Bought 1 AMZN MAR 31 '23 110 Call Option for $0.24
This trade provided a net premium of about $35, with a total risk limited to $500.
However, within about 10 days, the stock price increased from $93 to $100, challenging the short leg of the spread.
Adjustment Strategies
When a trade like this becomes challenged, there are several adjustment strategies to consider:
- Rolling Up and Out: This involves moving the strike prices higher and extending the expiration date. This strategy buys time and adjusts the strike prices to reflect the new market conditions, but it often requires additional margin or capital.
- Closing the Position: Sometimes, it’s better to close the trade with a small loss and move on, especially if the outlook for the underlying asset has significantly changed.
- Converting to an Iron Condor: By adding an opposite bull put spread, you can turn the trade into an iron condor. This advanced strategy can help manage risk and potentially increase your overall credit.
In my case, on March 16th, 2023, I decided to convert the trade into an iron condor by adding the following bull put spread:
- Sold 1 AMZN MAR 31 '23 90 Put Option for $0.55
- Bought 1 AMZN MAR 31 '23 85 Put Option for $0.22
This adjustment added a net premium of $31, bringing the total premium collected to $66 while maintaining the same risk level of $500. I anticipated the possibility of needing further adjustments, particularly on the call side, and planned to roll up the call option if necessary.
Steps to Adjust a Call Bear Spread
- Assess the Market Conditions: Begin by evaluating the current market environment and determining whether your original analysis still holds. If the underlying asset's price is rising instead of falling, you may need to adjust the spread.
- Determine the Necessary Adjustment: Decide whether to close the position, roll it, or add to it based on your revised market outlook. The goal is to minimize losses or maximize profits.
- Close the Position: If the market has shifted dramatically, closing the position may be the best option to limit losses. This involves unwinding both legs of the spread.
- Roll the Position: If you still believe the asset’s price will decrease, rolling the position to a higher strike price and later expiration can give the trade more room to work.
- Add to the Position: In favorable conditions, consider adding to the position to increase potential profits by adjusting the strike prices.
- Monitor the Position: After making adjustments, continue to monitor the trade to ensure it aligns with your investment goals. Be prepared to make further adjustments if market conditions change again.
My Personal Approach
In my trading, I rely heavily on the Greeks, particularly Delta, and technical analysis, focusing on resistance and support levels. I typically start considering trade adjustments when Delta reaches 0.25-0.30. This approach helps me make informed decisions and manage risk effectively.
Conclusion
Adjusting a call bear spread requires a keen understanding of market dynamics and a willingness to adapt your strategy as conditions evolve. Whether through rolling, closing, or converting to an iron condor, the key is to remain flexible and vigilant in managing your positions.
By incorporating both technical and fundamental analysis, you can make strategic adjustments that help you navigate the complexities of options trading while potentially enhancing your returns.