A Call Ratio Spread option strategy is neutral to a slightly bullish strategy created by buying one ATM or one slight OTM call and by selling two further OTM calls. The strategy gives us a net credit and thereby eliminating any downside risk if placed properly. It is important that you have a directional assumption that the stock will be sideways or move up slightly during the contract expiry.
This strategy has a high probability of profit when placed under high implied volatility (IV) conditions. As of previous day, Ashok Leyland (ASHOKLEY) has a high IV percentile of 96.6 when measuring over last 6 months & therefore an ideal time to place this strategy. You can track IV Percentiles here
Today, I’m placing a call ratio spread using ASHOKLEY options. My neutral to the slightly bullish assumption for this stock is due to good sales numbers in recent times and a bullish price action post that. I’m expecting the stock to move further upside or stay sideways at the present levels.
Call Ratio Spread Setup of ASHOKLEY:
Ashokley lot-size – 7000
> Buy an ATM or OTM call option – We buy one 107.5CE of Ashokley option at 2.1
> Short two further OTM call options at a higher strike – We short two 110CE Ashokley options at 1.45
So, we receive a net credit of Rs 0.8 (Credit of 110CE 2×1.45 minus debit of 110CE 2.1)
Payoff for call spread ratio of Ashokley at expiry is shown in the figure
Maximum profit for this strategy, in this case, is the distance between long strike and short strike + credit received, which in this case when calculated is Rs 23,100 (3.3*7000)
Breakeven for this strategy is short strike call plus the profit potential, which in this case is 113.3 (110+3.3), a good 7% away from the current spot price of the stock giving ample protection on the upside in case of a sharp move.
Management of Call Ratio Spread
We will exit the trade if the stock price tests & goes beyond the break-even level of 113.3.
The target for this trade is 50% of the maximum profit potential or wait till expiry if stock’s price action works in our favor, whichever happens first.
Exited the position with 4.9K profit.