Option Spreads

On the series 3 exam you will see questions dealing with both option spreads and futures spreads. We will start with option spreads as the answer is much more straightforward. With an option spread, you only need to look at the option with the lower strike price. If the investor bought the option with the lower strike price, the investor is bullish. End of story. There is nothing else you need to consider. This is true for both call spreads and put spreads. Bulls buy the lower strike price. Commit this to memory and you are all set. 

Now, there are more things to consider when it comes to spreading futures contracts You have Intercommodity spreads and intracommodities spreads. With an intercommodities spread the spreader is not outright bullish nor outright bearish. If the spreader is a speculator, their market attitude is that there is an inefficiency in the way the market is pricing related commodities. For example, there is a historical price relationship between gold and silver. A speculator who feels that gold is cheap relative to silver may go long gold futures and short silver futures. The assumption is the market will trend back to historical pricing and the spreader will profit as a result. Here, they are only playing for the change in the spread. The direction does not matter. The crack and crush spread are two very testable spreads used by producers who are simply looking to hedge business risk. You definitely want to master these. We have a whole section in our videos detailing spreads in options and in futures. 

When a speculator puts on an intracommodity spread along the curve, you look at what the speculator does with the front-month (near term contract). Bulls buy the front-month and sell the distant month. An example of a bull spread would be : Buy 2 September corn, Sell 2 December corn. Whereas, selling September corn and buying December corn would be bearish. We hope this helps. Good luck on your exam.