TT - KYO: AAPL Calendar, 02/24/14

TastyTrade - Know Your Options

LIZ & JNY explain how a calendar in AAPL works.

What is a Calendar spread?

1. You sell the front month and buy the back month of the same strike.
2. Since you are buying the more expensive option, your risk is the debit that you pay.
3. Make sure your debit is less than the value of the short option, as this is used to forecast the future value of the Calendar.

How do Calendar spreads make money?

1. IV increases, or
2. The underlying moves to your strike at expiration, or
3. Time passes without the underlying moving.

• Calendar entry criteria:
• Low IV Rank!
• Open on Monday following monthly expiration Friday.
• Front month DTE should be around half of the back month DTE.
• Generally choose the first OTM strike.
• You want the underlying to go to your strike, but not through it.
• If it does you should close.
• Exit:
• Home Run: at expiration the underlying is at your strike, and you close out.
• Foul Ball: the underlying moves far away from your strike by expiration. Close out if your strike gets passed by.

Example:

• AAPL trading @ 518.54 (on 2/27/14) with an IV Rank of 4%
• STO Mar14  520C @ 10.00
• BTO Mar14  520C @ 16.10
• Debit = $610

How can you determine the future value of a Calendar?

From the trade table we can see that with AAPL trading around 518, the Mar 520C with 22 DTE and an IV of 21.75% is worth $10. That's what the Apr 520C will be worth in 28 days, if AAPL is still trading around 518 and the IV is the same. Therefore, our $6.10 calendar could be worth up to $10, if things go in our favor.

Again, how can this AAPL Calendar make money?

1. If IV increases, the back month (that we bought) will increase in value more than the front month (that we sold), which will increase the value of our spread.
2. If AAPL closes near our strike at expiration, we can close out for almost a $4 profit.
3. If AAPL doesn't move, theta is on our side. The front month (-.22) is decaying faster than the back month (-.16) so our position has a small positive theta (+.06).