In the option market, one of the most important and versatile  is known as the spread options strategies.

In this section, you will find everything you need to know about the spread option strategies, how they are formed, what types are available and how they can be set up to take the best from them.

What is the Spread Option Strategy?

Let us first begin with the basic question. What is the spread option strategy?

A spread is an intermediate options strategy that requires to simultaneously buy and sell two call or put option contracts of different strike prices.

If those contracts have the same expiration date, we will say we have a vertical spread. However, if the expiration dates are different, we are talking about a calendar spread.

Depending on the relative positions between the strike price and the underlying, and depending if we are using call or put options, we will be albe to create four different spread option strategy variants. Each of these behave differently, and a have different name.

We can easily create any of the option spread strategies we want using our advanced options spread calculator excel.

Let us take a look at every single spread option trading strategy:

Spread Option Strategy Types

The volatility skew

One thing that the four option spreads have in common is the use of the volatility skew to favor the strategy.

As you know, the implied volatility is a parameter that we must always take into account when trading options, but even more when dealing with an option spread strategy.

In every option spread, we will need to simultaneously buy and sell options, we should look for those assets whose volatility skew favor our position. We can easily see this information in our broker, and we should be looking for a curve just like this one here:

In the previous image, you can see an example of one of the volatility curves for Wynn Resorts, which is currently trading at $111.63 per share.

This particular shape of the implied volatility curve is known as the volatility skew.

The volatility skew represents the different values of implied volatility for each of the different strike prices that are available. If we want to execute an option spread, we should be aware of the shape of the implied volatility curve to help us obtain better results in the strategy.

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Example of volatility skew

For example,  we are going to open a bearish call spread.

It is best to sell an option with a higher strike price, such as the $105 strike price. At the same time, we should buy another option with a lower implied volatility, such as the $110 strike price.

This difference in implied volatility from one strike to another will result in a better profit to the spread strategy, since we have sold a higher extrinsic value and bought a contract with a lower extrinsic value, both at the same expiration dates.

The volatility skew will provide us with an extremely beneficial effect when trading this strategy, so the most desirable thing to do is always look for those companies that offer a good volatility curve.

You can learn more about the implied volatility by clicking on the link. You will find more information about how implied volatility works or how it is measured through the greek vega.