What is a Neutral Spread?

What is neutral spread

Entering into the stock market where the market situation is neither bullish or bearish, the investors should know what is a neutral spread, market neutral option spreads, neutral calendar spread strategy, and delta neutral calendar spread.

So, what is a neutral spread? The word neutral means for a situation or person being indifferent towards something. Neutral describes the market situation or sentiment that is 'neither nearish nor bullish'. So in simple terms, the investors do not react to the market price. The investors feel that in the near future, the price of the security will neither rise or fall . So the investors resort to the neutral spread strategy so that they can earn profit even if the prices of the underlying securities are not in movement.

The neutral option spread strategies help the investors when there is lack of movement in the price of the underlying assets/securities. There will be a movement in the prices of the underlying assets but it will not be much.

The neutral spread strategy is extremely useful for individuals engaged in trading. It helps the traders to receive either income or credit when they initiate spread and get benefit if the market or a stock are in the price range at the time of expiration. So every investor who invests in the option spread should know what is a neutral spread and neutral spread strategy.

Neutral Calendar Spread Strategy

In a neutral calendar spread strategy, the investors purchase long-term calls that at the same time they sell the equal numbers of ATM near-month calls or OTM calls of the underlying securities that are the same having the same strike price.

When it is a neutral calendar spread strategy, the maximum profit of a neutral calendar is limited to premiums achieved from the writing/selling of the options (near-month) subtracted from the decay of the long-term options. The reason for this is on the expiration of the near-month options, the price remains as they are and does not change.

Calendar spread helps the investors to make significant profit especially when the underlying assets do not go up, down or sideways. The strategy is very helpful before a near-month option expiry.

Neutral option spread strategies

When the market becomes difficult to forecast or predict then there is a use fo the neutral option spread strategies. There are many neutral option spread strategies like if the investor buys two different stocks or sells the stocks at the same time (simultaneous selling)

The investors do not want to wait for the market to change but benefit from the neutral spread strategy that he adopts. But adopting the right neutral spread strategy out of many available neutral option spread strategies can be a little difficult for the investors. The investors need to know about all the market neutral option spreads and all the strategies.

Below are the best and most popular strategies in the market neutral option spreads.

1. Butterfly Spread

This strategy is the one that has a higher probability of winning a chance for the investor for a limited profit. It combines bear spreads and bull spreads. It is a bit complex yet offers a fixed risk and of course the capped loss or profit. The investors can use this strategy to pay off almost the complete underlying contracts/assets before the expiration if the underlying contracts/assets do not move

2. Covered Call

In this strategy, the investor buys a stock or uses his owned stock and sells calls to receive premium as an income and he can protect his investments i.e. underlying assets or stocks.

3. Condor Spread

If the investor is seeking for a profit from the high/low volatility. This strategy helps the investor limit his profit/loss. It allows the investors to sell one call at a lower strike price and the rest three of them at a higher and higher strike price. That makes this a four–part strategy.

4. Covered Call Collar

Those who are investing and are new to the stock market and its ways, this is the one strategy they can go for. It allows the investors to secure their contracts by giving protection in the market neutral option spreads.

5. Albatross Spread

This strategy is not suitable for beginners as it is an advanced strategy. This is very useful in profiting from the inactive or neutral market situation.

6. Call Ratio Spread

This is yet another strategy that is advanced and premium, allowing the investors to sell a higher number of options at higher prices while buying options at lower price at the same time.

7. Covered put

Just like covered calls, this one is the same strategy but for put. It is slightly bearish from neutral stock market sentiment. This is very useful for investors to collect the premium from the option buyer but it may lower your total purchase price.

Delta neutral calendar spread

Delta neutral calendar spread is the use of delta neutral strategy with using a Calendar option spread. This strategy is very helpful for shorter duration options for selling short term options. The inventors can buy long-term calls and at the same time sell equal near-month ATM or slightly OTM calls of the same underlying contract. This underlying contract also has the same strike price. Although this strategy offers very limited profit as the maximum profit possible by knowing the difference of near-month option and decay of long-term option.

This also limits the risk as it considers the initial debt that the investor put on the spread.

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