Benefits of vertical spreads

Vertical spreads allow you to profit in the stock market without having to predict what will happen next.  It involves using options and helps you make money if you can predict what will probably not happen in the future.

For example we find a stock trading at $70 and expect it to go up.  We can buy the stock which can help us profit if the trade goes in our direction.  But we would risk losing money if the stock does not go up.

Instead we can decide to sell the $65 put on the stock for say $1.5.  We would walk away with the $1.5 and keep our profit as long as the stock stays above $65 by the time the option contract expires.

If the stock does fall below $65 we would have to buy the stock at $65 and sell it at whatever prices the stock is trading at.  This could potentially give us a huge risk if the stock falls too much.

So instead of taking such a big risk we can decide to buy a lower strike price.  So if we not only sold the $65 put for $1.50, but also bought the $60 put for $.50 we would have created a vertical spread.  This would force us to spend some of our profit on a lower option contract, but in return we would limit our max loss.

This way the most we would be able to lose is $4.  In a worst case scenario where the stock crashes we would be able to buy the stock at $65 and sell it at $60 losing $5 minus the $1 profit we made.

The major advantage to a vertical spread is that you do not have to predict where the stock will go in order for us to be profitable.  We only need to determine where the stock will most likely not go, by expiration, which can be much easier.

For more on vertical spreads visit http://www.stocks-simplified.com/Vertical_Spread.html

For more on option spreads visit http://www.stocks-simplified.com/Option_Spreads.html