Long Combo
Description
The
Long Combo is a variation of the Long Synthetic Future. The only difference is
that
we sell out-of-the-money (lower strike) puts and buy out-of-the-moey (higher
strike) calls.
The
net effect is an inexpensive trade, similar to a Long Stock or Long Futures
position,
except there is a gap between the
strikes.
Market
Opinion
Bullish.
P/L
When
To Use
When
the investor wishes for a capital gain.
Example
XXXX
is trading at $35.25 on June 3, 2011.
Sell
November 2011 30 strike puts at $1.65.
Buy
November 2011 40 strike calls at $2.35.
The
credit from the put helps to pay for the debit of the long call.
Benefit
No
outlay of money for something like a long stock position, with unlimited profit
potential.
Risk
vs. Reward
The
risk is that you are open to unlimited losses until the stock hits zero. Reward
is unlimited upside potential.
Net
Upside
Unlimited
profit once the stock starts to rise.
Net
Downside
Unlimited
downside risk. No protection.
Break
Even Point
With
net credits: higher strike minus net credit.
With
net debits: higher strike plus net debit.
Effect
Of Volatility
N/A
Effect
Of Time Decay
Negative.
Although the effect is small because you are buying and selling near the money
options, thereby reducing time decay.
Alternatives
Before Expiration
To
stem a loss, when the stock breaks down through the stop loss, sell the position.
Alternatives
After Expiration
Close
out the position by selling the calls and buying back the puts.
