Introduction

You have been researching a stock and have formed a bullish opinion on its value, forecasting that it will rise in price over the coming months. You would like to limit your risk and are comfortable paying money to establish this position.

Building on your foundational knowledge of call and put options as well as the risks and benefits of single-leg options trades (buy call, sell call, buy put, sell put), you recognize that a two-leg trade, or spread trade, achieves the objectives you have outlined.

Specifically, buying a call expresses your bullish sentiment and achieves the goal of limiting your risk exposure to the downside. By selling a higher strike call, you offset some of the cost of the long position and also trade off some of the upside gain potential.

The combination of a long call and short call is referred to as a spread trade. Risks and benefits of each individual option component, or leg, offset each other to a degree in order to create the desired position and range of possible outcomes.

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What is a Bull Call Spread?

A bull call spread consists of one long call with a lower strike price and one short call with a higher strike price:

• Long 1 XYZ 100 call
• Short 1 XYZ 105 call

Both calls have the same underlying stock and the same expiration date.

A bull call spread is established for a net debit (or net amount paid) and profits from a rising stock price.

Both maximum profit and maximum risk (loss) are limited and known.

Worth noting: The “bull call spread” strategy is also known as a “long call spread” and as a “debit call spread.” The term “bull” refers to the fact that the strategy profits with bullish, or rising, stock prices. The term “long” refers to the fact that this strategy is “long the market,” which is another way of saying that it profits from rising prices. Finally, the term “debit” refers to the fact that the strategy is created for a net cost, or net debit.

Example

• Long 1 XYZ 100 call at $3.30
• Short 1 XYZ 105 call for $1.50

In our example, assume stock XYZ is currently trading around $100.

We buy 1 XYZ 100 call for a total of $330 (1 x 100 multiplier x $3.30) and sell 1 XYZ 105 call for a total of $150 (1 x 100 multiplier x $1.50).

In this example the bull call spread (long call + short call) positions were established for a net debit of $180 (–$330 + $150 = –$180).

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Outcome 1: Profit

With a bull call spread position, potential profit is limited because of the short call.

First, let’s recall the formulas for individual options positions:

Call Options:

If S – K > 0,

Long Call Profit = Current Stock Price – Strike Price – Net Premium Paid

Short Call Loss = – (Current Stock Price – Strike Price – Net Premium Received)

If S – K < 0,

Short Call Profit = Net Premium Received

Long Call Loss = Net Premium Paid

To calculate our profit on the position we established, we use the formula:

Profit = Profit/Loss on Long Call + Profit/Loss on Short Call

The maximum profit of the bull call spread is limited to the difference between the strikes minus the net premium paid. This maximum profit is realized if the stock price is at or above the strike price of the short call (higher strike).

Example

Stock XYZ is trading at $100 and you establish a bull call spread for a $1.80 debit.

• Long 1 XYZ 100 call for $3.30
• Short 1 XYZ 105 call at $1.50

A week later, stock XYZ is trading higher at $108.

*Unrealized profits are those that potentially exist; realized profits occur when you close out or trade out of the position.

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Outcome 2: Loss

Let’s assume we are incorrect in our sentiment, and the stock price declines. To calculate our loss on the position, use the following formula:

Loss = Profit/Loss Long Call + Profit/Loss Short Call

Remember, the stock price cannot trade below $0. Maximum loss is equal to the net premium paid.

In our example:

Max Loss = Net Premium Paid = $1.80 per share or $180 total loss (not including transaction costs and fees)

Example

Stock XYZ experiences unexpected news and is now trading lower at $97.

*Unrealized profits are those that potentially exist; realized profits occur when you close out or trade out of the position.

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Outcome 3: Breakeven

The breakeven price calculated on a per share basis for a bull call spread is equal to the long call (lower strike) less the net premium paid.

Breakeven Price = Long Call Strike + net premium paid – commissions and fees

Example

• Long 1 XYZ 100 put for $3.30
• Short 1 XYZ 105 put at $1.50

Breakeven Price = $100 + $1.80 = $101.80

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At-A-Glance

Strategy

• Bull Call Spread

Alternative Name

• Debit Call Spread

Pre-Requisite Strategy Knowledge

• Long Call
• Short Call

Legs of Trade

• 2 legs

Sentiment

• Bullish

Example

• Long 1 XYZ 100 call
• Short 1 XYZ 105 call

Rule to Remember

• Long call strike must be lower than short call strike

Max Potential Profit (GAIN)

• Limited: Difference between the strikes – net premium paid

Break-Even Point

• Lower long call strike + net premium paid

Max Potential Risk (LOSS)

• Limited: Net premium paid

Ideal Outcome

• XYZ price rises to or above the higher call strike

Margin Requirement

• Yes

In Brief

• The bull call spread is created by buying one lower strike call and selling one higher strike call. Typically, this is a cost-effective strategy that limits downside risks while creating exposure to upside gain potential.

Early Assignment Risk

Early assignment risk applies to short options positions only.

American options can be exercised on any business day, and the holder of a short stock options position has no control over when they will be required to fulfill the obligation. Therefore, the risk of early assignment must be considered when entering positions involving short options. Early assignment of stock options is generally related to dividends.

The long call (lower strike) in a bull call spread has no risk of early assignment.

The short call (higher strike) does have such risk.

If the stock price is above the strike price of the short call in a bull call spread (the higher strike price), an assessment must be made if early assignment is likely. If assignment is deemed likely and if a short stock position is not wanted, then appropriate action must be taken. Before assignment occurs, the risk of assignment can be eliminated in two ways:

• First, the entire spread can be closed by selling the long call to close and buying the short call to close.
• Alternatively, the short call can be purchased to close and the long call can be kept open.

If early assignment of a short call does occur, stock is sold. If no stock is owned to deliver, then a short stock position is created. If a short stock position is not wanted, it can be closed by either buying stock in the marketplace or by exercising the long call. Note, however, that whichever method is chosen, the date of the stock purchase will be one day later than the date of the stock sale. This difference will result in additional fees, including interest charges and commissions. Assignment of a short call might also trigger a margin call if there is not sufficient account equity to support the short stock position created by the option assignment.

Potential Position Created at Expiration

There are three possible outcomes at expiration: the stock price can be at or below the lower strike price, above the lower strike price but not above the higher strike price, or above the higher strike price:

• If the stock price is at or below the lower strike price, then both calls in a bull call spread expire worthless and no stock position is created.
• If the stock price is above the lower strike price but not above the higher strike price, then the long call is exercised and a long stock position is created.
• If the stock price is above the higher strike price, then the long call is exercised and the short call is assigned. The stock is then purchased at the lower strike price and sold at the higher strike price, resulting in no stock position.

Charts

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