Calendar Spread (Investments) - Explained
What is a Calendar Spread?
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Table of ContentsWhat is a Calendar Spread?How Does a Calendar Spread Work?
What is a Calendar Spread?
A calendar spread is an investment strategy used by investors, it entails an act of concurrently entering both long and short positions on the same underlying asset or debt instrument. Both positions are entered at the same stake price but their expiration dates or delivery months differ. This means that the only area which both legs or position vary is their expiration date, all other factors are the same. A calendar spread is sometimes called a time spread, horizontal spread or interdelivery spread.
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How Does a Calendar Spread Work?
Investors use the calendar spread strategy when there is uncertainty about the direction of the market or in cases of imminent market volatility (vulnerability). This strategy entails the simultaneous purchase of a call or put option taking a short and long position on the same security with the same stake price but different expiration dates. Investors use this method as a neutral or profitable strategy to gain higher profits form an implied market volatility, passage of time and uncertainty about market direction. For any investor that uses the calendar spread strategy, the ultimate goal is to make profit from the passage of time and volatility in the market. In this strategy, the investor enters both a short and long position on the same underlying asset and at the same price but at different maturity dates. The rationale behind this strategy is that two options or positions will trade differently with regard to implied volatilities. Investors however benefits from the behaviour of the short-dated or long-dated option to time and volatility. All things equal, this strategy often witness a positive impact at the start of the trade till the short-term option expires.