Understanding Spread Options
In options trading spreads occur when an investor purchases one option and sells another option, both attached to the same stock, which may contain different prices and expiration dates. Options trading spreads are called an "options position" and to fully understand spread options, one must first understand the common terminology associated with such spreads.
One term that is commonly used when discussing options trading spreads is "class". A class is options of the same type attached to the same stock. Another commonly used term is "series". A series is options of the same class that also contain the same value and expiration date. All series are of the same class, but not all classes are of the same series.
Using these terms, options trading spreads occur when an investor purchases one option and sells another option of the same class, but of a different series.
Options trading spreads are essentially strategies for options trading. Spreads allow an investor to have greater control over an investment's risk, but spreads also limit potential gains. This is because a spread allows an investor to be positioned in both the buying and selling sides of the market. It is a give and take, or balance, that can lower the profit margin.
If an investor has a feeling for the impending direction of a stock attached to his or her options, he or she may choose to position himself or herself in option trading spreads to limit risk exposure, should the investor's initial feeling about the stock prove to be wrong.
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