The short call is an intriguing position to open, if only because so many traders see it as way too risky to even consider. But some strategies are perfectly suited to take advantage of two great short call features: offset of risk, and premium income.
One variation is the short call butterfly, which employs three strikes. An expansion of this which adds even greater risk spreading is the short call condor. This expands the butterfly by adding another mid-range strike. Thus, there are four strikes overall, with the short side on the highest and lowest side and the long positions in the two middle strikes. Properly set up, this strategy is neutral and the net profit/loss requires movement in either direction. The more movement experienced, the better the outcome. The ideal placement of the underlying price should be halfway between the two long calls, right in the middle of the position. This sets up a short call condor with a short OTM call, a long OTM call, a long ITM call and a short ITM call.
For example, a company was trading is at $81.25. You could set up a short call condor using four strikes as follows:
Short call condor with calls:
Short June 77.50 - 9.80
Long June 80 6.80
Long June 82.50 5.50
Short June 85 - 4.53
Net credit - 2.03
The net credit makes this overall position desirable, as far as it goes; you receive funds rather than paying. If the stock price remains within the middle zone, a loss will occur; however, it is fixed. The farther away from this the price moves in either direction, the higher the profit potential. However, the great disadvantage is that with even with high volatility, returns are going to be small, even smaller than the profits possible with other strategies including the most more simple synthetic long or short stock, the basic butterfly, or the collar. The collateral requirements are calculated as the net difference between long and short strikes on both sides, reduced by the net credit received. So collateral is minimal.
On a practical level, the likely outcome of this strategy will be to close one or both of the high/low short positions, while leaving the long positions with the change to overall gain in value. Closing the shorts reduces risk but also reverts the original credit to a likely debit. However, if timed well, the net overall cost of closing short positions could result in relatively cheap remaining long calls. So compared to the very difficult strategy of opening a long spread, the net cost of the revised short call condor may be the end result and desirable outcome. It all depends on how much time remains to expiration.
All option strategies have to be judged based on overall value versus overall risk, and this is no exception. For many traders, the time until expiration is a major factor in consideration for two reasons. First, options have the highest rate of time decay during the last two months, so focusing on positions within that range will be most likely to create fast profits in the short calls. Second, collateral requirements could be too high to make this strategy practical if the range is expanded to greater distance between strikes. When considering the collateral requirements against profit potential, the size of margin might simply be too great to justify the position. Thus, even if it looks good on paper, the practical limitations curtail the effectiveness of the short call condor.
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