Bull Call Ladder Spread is an options trading strategy used by expert traders to gain profits when the market is bullish, i.e., when the prices are expected to rise.
About Bull Call Ladder Spread Strategy
The primary distinction between Bull Call Ladder Spread and bull call spread is that, an additional transaction is done to help reduce the upfront cost of capital. It is also known as a long call ladder strategy.
The Bull Call Ladder strategy helps maximize earning potential while limiting the risks and the cost of capital.
This is a complex options trading strategy, meant for the use of only expert traders. Expert market knowledge is required in order to execute the Bull Call Ladder Spread effectively.
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When is the Bull Call Ladder Spread used?
This strategy is most commonly put to use when the trader expects the price of the security to rise, but not dramatically.
This means an upwards move is expected in the market; however, the amount of increase is not huge. There is a potential of limited downside risk; however, the upside risk is unlimited.
This means that, if the underlying security price goes up beyond the expected range, the trader can incur unlimited losses.
With the help of this simple strategy, one can ensure that there is an upfront credit for the cost incurred. In this manner, the overall cost of capital is minimized without impacting the trader’s profits.
How does Bull Call Ladder Spread work?
There are a total of three transactions involved in this process of establishing a Bull Call Ladder Spread. These transactions include buying calls and writing calls at higher strikes.
It is possible to increase profit potential by using legging options while doing these transactions. Or else, they can even be performed simultaneously.
The spread is created by buying 1 ITM call and writing off 1 ATM and OTM call, each of the same underlying security.
All the calls should have the same Expiry. The purpose of writing calls at higher prices is to offset the cost of buying.
Let us try to understand this with the help of an example:
- Nifty current spot price: 8100
- Buy 1 ITM call of strike price: 8000
- Premium paid: 180
- Sell 1 ATM call of strike price: 8100
- Premium received: 105
- Sell 1 OTM call of strike price: 8200
- Premium received: 45
- Upper breakeven: 8270
- Lower breakeven: 8030
- Lot size: 75
- Net premium: 30
In the given example, upper breakeven is calculated as 8200+8100-8000+30=8270
Lower breakeven is calculated as 8000+30= 8030
The illustration can be explained as follows:
Suppose, Nifty is trading at 8100, a trader expects that it will expire between the range of 8100-8200. In order to maximize his profits, he enters into the market by establishing a Bull Call Ladder Spread.
In this, he buys a call of 8000, at a strike price of 180. He sells his 8100 ATM call at a strike of 105 and his OTM call of 8200 at 45. The net premium paid in this transaction is hence minimized from INR 180 to INR 30.
The trader can earn a maximum profit of 70*75= INR 5250. His maximum loss can be 30*75= INR 2250. This would not have been the case if he had not used the Bull Call Ladder Spread strategy.
You can use cheaper strikes as well, but they would lead to less credit payoffs. Hence, higher strikes should be used when the trader expects dramatic movement in the security price.
This would help him maximize profits because of the higher upper breakeven point.
Find out more relevant Bull Option Trading Strategy below
|Long Call||Bull Condor Spread||Bull Butterfly Spread|
|Bull Put Spread||Bull Ratio Spread||Short Put|
|Bull Call Spread||Short Bull Ratio Spread|
Profit and loss potential of Bull Call Ladder Spread
The profits occur when the calls expire in the expected range, where the trader has sold the strikes.
Similarly, the loss would happen when the spot price falls below the predicted range, that is, below the lower breakeven point.
However, the point to be noted here is that, if the price increases too much beyond the upper breakeven, then also, the trader will incur losses, and the position will start to reverse.
Hence, a correct expectation of range is essential in order to ensure maximum profitability from the trade.
This can be explained as follows with the help of the above example:
|Closing price on Expiry||Payoff from ITM call bought||*Payoff from ATM call sold||Payoff from OTM call sold||Net payoff|
Maximum profit = Strike Price of Short Call – Strike Price of Long Call – Net Premium Paid – Commissions Paid
The above table shows that the maximum profit is achieved when the price of the security closes between the strike prices of the two written off calls.
How to minimize risk while using Bull Call Ladder Spread strategy?
The Bull Call Ladder Spread trading strategy exposes the trader to unlimited risk. Hence, it is advisable to avoid taking any overnight positions. Another way of restricting the loss can be to use stop-loss wisely.
The strategy should only be used when the price move is expected to be within a specified range. Any significant move upside or downside can cause huge losses.
Volatility can also become a problem. The amount of precision this strategy requires makes it difficult for the use of beginner traders.
Advantages of Bull Call Ladder Spread
- The reduced upfront cost of capital: By making use of three transactions.
- Offers flexibility: The strike prices can be modified as per requirements and expectations.
- Not difficult to understand and use: No complicated calculations are involved
Disadvantages of the strategy:
- Huge margin requirements to take the necessary position
- Losses can incur if the price goes beyond the expected range
Bull Call Ladder Spread – Conclusion
The Bull Call Ladder Spread is indeed an up-gradation to the bull call strategy. This complex options trading strategy gives the best results when the price movement occurs in the expected range.
However, the Bull Call Ladder Spread should only be established when the trader has confidence in moving the price of the underlying security.
The above-explained price movements can be summarized as:
- If the price falls below the strike price, you incur a loss.
- If the price remains anywhere between the strike prices, i.e., the expected ranges, you earn profits.
- On the other hand, if the price rises above the expected range, you incur unlimited losses.
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