Time Value Spreads

Description

Time spreads in options refer to the creation of a spread involving the sale of an option in one expiration cycle and the purchase of an option in another expiration cycle. They have the same strike price and are either all calls or all puts. They are also referred to as calendar spreads or horizontal spreads, as in time horizon. They are not to be confused with futures time spreads that have nothing to do with strike price.  I refer to them as time value spreads.

Relative time value is what the spreads are all about. These spreads give you the opportunity to benefit from the wasting asset aspect of options when you buy the spread due to the front month option decaying more rapidly than the back month option. A big movement in the underlying will be detrimental to profitability when you buy the spread. The opposite occurs when you buy the front month and sell a further out month.

You will also learn how diagonal spreads work. Diagonal spreads combine elements of vertical spreads and time value spreads. You buy an option from one expiration cycle at a certain strike price while you sell an option in a different expiration cycle at a different strike price.

You will see how these spreads work when they are carried all of the way to expiration and also how they unfold before expiration. This will allow you to learn how to adjust these positions to your benefit.