What is a Reverse Calendar Spread
A reverse calendar spread is a type of unit trade that involves buying a short-term option and selling a long-term option on the same underlying security with the same strike price. It is the opposite of a calendar spread.
Reverse calendar spreads can also be known as reverse horizontal spreads.
BREAKING DOWN Reverse Calendar Spread
Reverse calendar spreads and calendar spreads are a type of horizontal spread. Generally, spreads may be either horizontal, vertical or diagonal. Most spreads are also constructed as a ratio spread with investments made in unequal proportions or ratios. A spread with a larger investment in long options will be known as a backspread while a spread with a larger investment in short options is known as a frontspread.
A reverse calendar spread is most profitable when markets make a huge move in either direction. It is not commonly used by individual investors trading stock or index options because of the margin requirements. It is more common among institutional investors.
Reverse Calendar Spread Construction
As a horizontal spread strategy, the reverse calendar spread must use options on the same underlying asset with the same strike price. In all horizontal spreads the goal will be to benefit from price changes over time. Therefore, horizontal spreads will use options with differing expirations.
A reverse calendar spread is known for taking a long position in the near-term option and a short position in the longer-term option. This differs from the calendar spread which takes a short position in the near-term option and a long position in the longer-term option.
Reverse calendar spreads can be constructed with either put or call options. Like their calendar spread counterpart they must use either one or the other in both legs of the unit trade.
Put and Call Spreads
Using either put or call options, the strategy will usually be constructed as either a backspread or a frontspread. A backspread (long spread) will buy more than it sells and a frontspread (short spread) will sell more than it buys.
Reverse calendar call spread: This strategy will focus on calls. As a reverse calendar spread it will buy calls in the near term and sell calls in the longer term. It seeks to benefit from a falling price.
Reverse calendar put spread: This strategy will focus on puts. As a reverse calendar spread it will buy puts in the near term and sell puts with a longer-term expiration. It can seek to benefit from a rising price.