Short Diagonal Call Spread
The inverse of the Long Diagonal Call: buy a near-dated OTM call, sell a longer-dated ITM call. Bearish lean that benefits from falling IV.
Profit / Loss Diagram
Short Diagonal Call at the short expiration
What is this strategy?
The Short Diagonal Call Spread is the inverse of the Long Diagonal Call: you buy the near-dated OTM call and sell the longer-dated ITM one. It is an advanced structure with a bearish lean and complex exposure to implied volatility.
It receives a net credit at entry. It profits if the underlying falls or if IV collapses. It loses if price rallies hard or IV explodes.
A strategy for advanced traders with a moderately bearish outlook and an understanding of the term structure of implied volatility.
Construction
| Action | Instrument | Strike | Expiration | Example |
|---|---|---|---|---|
| BUY | 1 Call | OTM (higher) | Front (30 DTE) | +1 SPY May 460 Call |
| SELL | 1 Call | ITM (lower) | Back (90 DTE) | -1 SPY Jul 440 Call |
Example
SPY at $450, moderately bearish outlook.
- Long May 460 Call −$200 premium paid
- Short Jul 440 Call +$1,500 premium received
- Net Credit +$1,300
- Maximum Gain $1,300 (the credit) if SPY falls and both calls expire worthless
- Loss if SPY rises to $480 The sold July call becomes expensive faster than the purchased May call gains
- Risk after the short expiration A sold July call remains with no cover: theoretically unlimited loss
The Greeks
Net negative delta.
Time works against the near-dated long leg.
Benefits from falling implied volatility.
Long gamma from the near-dated purchased leg.
Position Management
- 01 Strict Stop Loss Set a stop at 50% of the credit received to cap losses.