A call debit spread — also referred to as a bull call spread or a long call spread — is an options trading strategy where a bullish trader purchases a call option at the same time as they sell another call option with a higher strike price and the same expiration date.
Essentially the call debit spread is a long call with the addition of a hedge of a short call to reduce risk. The level of risk is well defined; but it has limited profit potential.
This options strategy can be a good way to profit from increases in underlying asset prices.
Call Debit Spread Definition
Like some other common options strategies, call debit spreads may be traded out-of-the-money (OTM), at-the-money (ATM), or in-the-money (ITM).
To understand this strategy it helps to review the basics of call and put options. The basic steps of the strategy are:
• Purchase a call option
• Sell a call option with a higher strike price
The reason they are called debit spreads is the trader will incur a debit (cost) equal to the price of the purchased call option less the price of the sold call option when they enter the trade. An investor loses the entirety of their debit if the underlying stock closes below the strike price of the long call (the lower strike price).
The closer the strike prices are to the price of the underlying asset, the higher the debit payment is. But a higher debit also means a higher potential profit.
Recommended: Guide to Writing Put Options
Entering and Exiting a Call Debit Spread
To enter a call debit spread, a trader purchases a buy-to-open (BTO) call option and a sell-to-open (STO) call option that has a higher strike price and the same expiration date. The way the trade is structured, the trader is paying a debit. The entry can be at any strike price.
If a trader is more bullish, they can choose to purchase a spread that is more out-of-the-money. By selling the call option with the higher strike price, the trader gets into the trade at a lower cost and defines their risk and profit level.
To exit a call debit spread, the trader sells-to-close (STC) the long call option and buys-to-close (BTC) the short call option.
Traders have some ability to adjust their trade prior to the option expiration date, but they will pay an additional amount to do so, thereby increasing their risk and lowering their profit potential.
Additional flexibility exists in the ability to roll out spreads to a later expiration date. A trader might choose to do this if the option’s underlying asset price hasn’t moved enough to make the trade profitable.
In order to do this, the trader can sell the bull call spread they own and buy a new spread that has an expiration date further in the future. This can potentially increase the potential for profit but the trader will have to pay an additional fee, so this adds some amount of risk to the trade.
This is just one of many strategies traders can consider when thinking about how to trade options today.
Call Debit Spread Examples
Let’s look at two examples.
Example 1
Stock XYZ is currently trading at $100 per share. To enter into a call debit spread, a trader could purchase a $103 call for $1.00 at the same time as they sell a $105 call for $0.40. This would create a net debit, which is why it’s called a call debit spread.
The maximum loss and net debit for this call debit spread is:
Premium paid = Cost of Long call – Cost for Short Call
Premium paid = $1.00 – $0.40 = $0.60 net debit
Note: The $0.60 net debit is per share. Since an option contract is for 100 shares, the debit will be $60 per option contract.
The maximum profit for this call debit spread is:
Maximum profit = Width of strike prices – Premium paid
Maximum profit = $105 – $103 – $0.60 = $1.40 per share or $140 per option contract
The breakeven point for this trade is when the stock price reaches:
Breakeven = Strike price of long call + Premium paid
Breakeven = $103 + $0.60 = $103.60
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Example 2
A trader buys a call option for $50 and sells a call option for $55. The trade costs them $2. This makes their maximum loss for the trade $200, which they will lose if the stock option expires at a price below $50. If the stock option closes above $55, the trader will profit $300. The trader will break even at a closing price of $52.
The maximum loss and net debit for this call debit spread is:
Premium paid = $2.00 (we don’t know the costs of each call but the total debit is given as $2.00)
The maximum profit for this call debit spread is:
Maximum profit = Width of strikes – Premium paid
Maximum profit = $55 – $50 – $2 = $3 per share or $300 per option contract
The breakeven point for this trade is when the stock price reaches:
Breakeven = Strike price of long call + Premium paid
Breakeven = $50 + $2 = $52
Maximum Gain, Loss, and Break-Even for Call Debit Spread
The maximum profit for a call debit spread is:
Width of Strikes – Premium (Debit) paid
The maximum loss for a call debit spread is:
Premium paid
The break-even point for a call debit spread is:
Premium paid + Strike price of the long call
Recommended: How to Trade a Bull Put Spread
Why Trade Call Debit Spreads?
Traders choose to use the call debit spread option strategy when they are bullish on the underlying stock or asset.
Traders will also use the call debit spread strategy if they want to take a long position on an asset without actually spending all the money required to buy the asset itself. This gives them exposure to the asset with less risk and lower capital requirements.
Traders also use the strategy as a way to hedge against the risk of volatility collapse. If volatility collapses in a long call position, this can go poorly for an investor. But with the structure of a call debit spread, changes in volatility don’t have much effect.
Call Debit Spread Tips
Here are some tips for trading call debit spreads and some additional factors to be aware of before opening your first call debit spread.
Sensitivity to Theta (Time) decay
One factor that impacts call debit spreads is time decay, or theta decay. Theta is one of the Greeks in options trading.
If the underlying asset price is near to or below the long call (lower strike price) the trade will decrease in value as the expiration date nears. However, if the asset price is near to or above the short call (higher strike price) the trade will increase in value as the expiration date nears.
If the asset price is near the middle of the strike prices, time decay of the long and short call is offset and time erosion will have little impact on the price of the call debit spread.
Closing Call Debit Spreads
It’s generally a good strategy to close out a call debit spread before it expires if it is profitable. If it has reached its maximum possible profit, the position should be closed out to capture the maximum gain.
Another reason to close a call debit spread position as soon as the maximum profit is reached is due to the risk of your short call being assigned and exercised. To avoid this situation you may close the entire call debit spread position or keep the long call open and buy to close the short call.
If the short call is exercised a short stock position is created. You can close out the position with stock in your account, buy back stock in the market to close out your short position, or exercise the long call. Each of these options will incur additional transaction fees that may affect the profitability of your trade, hence the need to close out a maximum profit position as soon as possible.
Call Debit Spread Summary
Below is a summary of the key factors involved in a call debit spread:
| Maximum Profit | Limited |
|---|---|
| Maximum Loss | Defined |
| Risk Level | Low |
| Best For | Prediction of an upward movement in stock price |
| When to Trade | When bullish on a stock |
| Legs | Two legs |
| Construction | Short call + Long call |
| Opposite Position | Call credit spread |
The Takeaway
A call debit spread is a commonly used options trading strategy that can help traders have predictable risk and profits when they are bullish on the underlying asset.
If a trader wants to take a long position on an asset, but not have to buy the asset itself, they can use the call debit strategy — which gives them exposure to the asset with less risk and lower capital requirements.
It’s also possible to use this strategy as a way to hedge against the risk of volatility collapse.
If you’re ready to try your hand at online options trading, SoFi can help. You can trade options from the SoFi mobile app or through the web platform. And if you have any questions, SoFi offers educational resources about options to learn more.
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