Debit and Credit Spreads

The simultaneous opening of long and short positions involves receipt and payment of money. When you go short, you receive a premium, and when you go long you are required to pay. When you receive more than you pay, that also extends your profit range in a combination strategy. While it is always desirable to receive more money than you pay out, it is not always possible. Some strategies will involve making a net payment. When you make a payment to open the position, more profit is required in changed value levels to offset the amount paid and produce a net profit.

Smart Investor Tip

When a spread involves a net receipt, that broadens your profit potential; a net payment is accompanied by the requirement for greater profits in changed option premium to make up the difference.

A spread in which more cash is received than paid is called a credit spread. When you are required to make a payment, that is called a debit spread.

By Michael C. Thomsett
Michael Thomsett is a British-born American author who has written over 75 books covering investing, business and real estate topics.

Copyrighted 2016. Content published with author's permission.

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