What it is
Three options: a sold put at or below today's price, and above the price a sold call with a bought call a little higher. The put and the call spread both bring in premium. The defining rule is that the total credit should be at least as large as the gap between the two calls, which this example's is.
That rule is what removes the upside risk. The most a call spread can lose is its width. If the credit already covers the width, then even a stock that rockets past both calls leaves the position slightly positive. All the risk that remains is on the put side.
What has to happen for it to make money
The stock must not fall below the put's strike by more than the total credit. Anywhere above that single break-even the position profits: most between the put strike and the lower call, a little less above the calls, and never a loss on the way up.
It is a neutral-to-bullish premium sale that collects more than a lone short put by also selling some upside, without opening the unlimited risk a naked call would. Falling volatility helps it before expiry.
Once it is on
Because the upside is safe, attention goes to the downside, where the position behaves much like a short put with a slightly lower break-even. If the stock falls toward the put's strike, the choices are those of any short put: hold and accept assignment, buy it back, or roll it lower and later.
The credit-at-least-the-width test has to hold when the trade is opened. If volatility is low, the premiums may not reach it, and a position built anyway carries a small risk on the upside after all.
What goes wrong
A sharp fall. The put is uncapped below its strike, so a large drop loses almost as much as a short put alone, cushioned only by the extra premium from the calls.
A big rally, while not a loss, gives up most of the credit, leaving only the small margin by which it exceeded the call spread's width.
Pros and cons
- Pro: collects more than a short put on its own.
- Pro: no loss on the upside when built to its rule.
- Pro: a single break-even to watch, below the price.
- Con: the downside is as open as a short put's.
- Con: the credit rule can be hard to meet when volatility is low.
- Con: three legs to fill.
In Restrike
The two calls fold into one call credit spread on the Log and the Portfolio, and the put stays its own short put. One strategy label across both puts the lizard on the scorecards as one trade. Restrike reads it read-only from your broker and never places a trade.