Level 3 FAQs

We like to set up bear call spreads on stocks that we are bullish on for the long-term since we set up buy-stop orders to cover ourselves in case the stock reaches the strike of our second leg.

First, buy your first leg, which is an OTM option with a delta around 0.05-0.15. Second, sell a second leg, which is an OTM option with a delta around 0.16-0.30. Third, set up a buy stop order around $1 below the strike of your second leg. Remember, you can change the variables to fit your own risk tolerance.

We don't recommend doing this because you would now be selling a naked call. This means that you have potentially unlimited risk.

We don't recommend doing this because you will not be able to cover yourself in case the stock surpasses the strike of your second leg. If you do not cover yourself, you will be subject to a potential loss as you will are contractually obligated to deliver shares at the strike of your second leg.

Absolutely! Utilizing this strategy means that you can profit in any market direction.

Setting up bear call spreads works best when stocks trend neutrally or bearish.

The ultimate goal for bear call spreads is to let both of your call options expire worthless by trending neutrally or bearish. You don't want to have the price of the stock hit the strike of your second leg.

We typically like to close our bear call spreads when we hit a profit target of around 50-80%. This means that if you received a credit of $100, you can consider closing your position when you are able to purchase your legs back for $20-50.

No. If you wait until expiration and both of your legs are OTM, they will expire worthless and your positions will automatically close.

It's up to you if you want to close your spread early. However, if you see that your spread value has around $5 left with a week until expiration, it may not be worth holding onto the spread.

The first risk is if the underlying stock runs up, triggers your buy-stop order, but dramatically drops in price right after. In this scenario, you would have 100 shares and a call sold against your shares, which is a covered call trade. If the shares dramatically drop in price from your initial purchasing price, you would be "stuck" holding onto the shares and would have to wait for the shares to retrace.

The second risk is if the underlying stock runs up too fast and causes a gap up. If there is a gap up, your brokerage may not have been able to trigger your buy-stop order, meaning that you are not covered. If this case happens, we recommend covering yourself right away because if your underlying stock continues to move up, you will take a bigger loss since you are contractually obligated to deliver 100 shares for each sold contract at the strike price of the call options.

There are many names to this trade. Some include Poor Man's Covered Call, Synthetic Covered Call, Modified Calendar Spreads, or Diagonal Spreads. Essentially, you will be selling shorter dated call options against your LEAPS call options.

You may want to do this if your underlying stock is trending neutrally or downward and you want to collect premium to reduce the cost basis of your LEAPS option.

Just like a bear call spread, we recommend that you set up a buy-stop order to cover yourself in case the underlying stock surpasses the sold leg of your PMCC.

PMCCs are more risky compared to regular covered calls since your LEAPS option has theta decay and has magnified movements based on the movement of the underlying stock. Again, we recommend to not have more than 10% of your portfolio in LEAPS options.