Ghetto Spread Options Trading Strategy Explained -- with David Moadel
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hello and welcome to looking at the markets with david modell what the heck
is a ghetto spread well i heard about this and learned
about it in some youtube videos that i saw and
first of all it's not really an officially recognized
name of an options strategy you've got vertical spreads calendar spreads
diagonal spreads iron condors things like that those are
recognized by professional options traders a ghetto
spread that's kind of an informal name so i don't want you thinking that this
is like some formalized uh officially recognized kind of
strategy all right but you might see it in
youtube videos or elsewhere and you might be tempted to do it and
with this video i might uh persuade you not to all right so
let's look at an example and if you don't know what a
vertical debit spread is yet you might want to watch some of my other
videos and learn about what that is all right um because you have to know
about that in order to understand this all right so this is a
little bit more of a complicated strategy it is interesting
though it's worth at least being aware of because maybe you want to try it i
don't know all right so this is a vertical debit
call spread why is it vertical well same expiration dates and this is on intel
stock intc vertical call spread all right so
it's vertical meaning the expiration dates are the same
all right the only thing that's different is the strike prices all right
and it's a debit because you end up paying at first
in the hopes of the value of the spread going up
and then you could uh you know sell back the spread or liquidate the spread
okay for a profit hopefully okay so let's say um let's say intel is trading
at around 48 and a half and uh you think it's going to go up
above 50 uh by i don't know this one is about a
month and a half out let's say so in the next month and a half you
think intel is going to go up past 50. all right so you buy a 50 strike call
option fair enough maybe you pay a dollar 40 per share
or thereabouts all right 140 dollars per contract
okay uh maybe you don't want to pay that much maybe you want to reduce your cost
basis you want to pay less up front so what do
you do well you can sell a call against it
make a vertical debit spread out of it right so you sell
a higher strike call same expiration date because it's vertical
uh you sell the 50 250 call for intel let's say
okay great and you collect around 70 cents per share
all right so you're effectively cutting your debit in half
really i mean you were going to pay a dollar 40 per share just by buying the
call but now you're collecting 70 cents and so now you're
only paying around 70 cents that makes sense it's actually not a bad
strategy just a good old-fashioned vertical debit spread
it's a great way to reduce your upfront cost or your cost basis as
they say all right so you're hoping that intel
goes past 50 and all the way up to 52.50 for your max profit
upon expiration not bad right but uh according to some youtubers i
watched they talked about the ghetto spread and
they made it sound like it's a great thing
they made it sound like uh imagine if you could uh put on
a debit spread and it's free it ends up not costing you anything no
debit and you might even get a credit you
might even get paid to put this on well i was intrigued okay i thought wow
this this sounds amazing how do i get involved how do i do this
okay so i will try to explain this here we go
ghetto spreads option strategy explained ghetto spread a way to do a vertical
debit spread but without the debit could it be free get a credit maybe
here's how it works using call options as an example you buy
a call the call price okay so you just buy the
call in this example you wouldn't put on the full spread you
would just buy this one okay you're thinking about selling a call
against it later but right now you're just buying the call
the call price goes up hopefully so so you wait and hopefully the you
know the stock price goes up a lot really soon and
you know hopefully the call price all the call prices would probably go up
then right so the call price goes up then you sell a call and it's vertical
same expiration date higher strike price thereby creating a
vertical spread since all of the call prices probably
went up right so you'll collect more money for
selling that call than you would have before
in fact hopefully you'll collect enough money
that what would have been a debit spread previously
is now free or you might even end up getting a net credit
sounds exciting right in other words here's another way of putting it
buy a call wait for the price of the call that you're planning to sell
against it to be higher than or at least the same
price as the call that you bought and sell that call so you're legging
into a spread that would normally cost money but it
would be free or even pay you a credit sounds pretty good right
so in this example that i showed you okay
you could buy the intel 50 strike call for around 1.40 a share
okay so let me pull this up a little bit there we go
this is the same same example here all right so you'd buy this one
you'd buy the 50 strike for around a dollar 40 share
uh yes you could also immediately sell the 5250 strike
call for around 70 cents per share as we discussed
but with a ghetto spread you would only buy the
the 50 strike call right now then you would hope that the 5250 strike
call would double in price so that you could sell it for a dollar
forty per share thereby making the spread free okay and
we'll take a look at the bigger example here so you'd buy this one now
hopefully intel would very soon go up a lot
and hopefully this one would basically double in price
from uh 70 cents a share to a dollar 40 and you would sell this one thereby
offsetting what you paid for this one right and so
the whole thing would be free instead of incurring a debit
uh or better yet maybe this one would go up so much that it would
it would go up more than a dollar forty maybe it would go up to two dollars or
something and so you would sell this and the whole
thing would pay you you'd collect a credit
to put on that uh that spread there instead of a debit
sounds great right can't possibly go wrong right
well let's think about it uh all right but first you know you might be thinking
can you do this with puts instead of calls yes it's just the opposite uh you
could do this with puts instead of calls you would buy a put
the put price would hopefully go up if the stock would you know hopefully go
down a lot really soon and then you'd sell a
put against it uh same expiration date but lower strike
price thereby creating a vertical spread and
again the goal is for the spread to be free or
for a credit whereas normally it would have incurred a debit all right
so same idea just the opposite with uh with
puts all right this all sounds great except for one problem
your timing would have to be really really good
it would have to go something like this you buy a call
after a stock swings low if your timing is really good then the
stock the stock would very soon stop falling and
go up sharply then you would sell the higher strike call against it and yes
you'll have a vertical spread that might be free
or even possibly pay you a credit so it would have to go something like
this this is my awful artwork it was the best i could do
stock swings low you buy the call at basically almost the perfect time and
then because you have really amazing timing
or you're really lucky right after you buy the call really soon
uh the stock price goes up sharply and then you sell the
call against it all right and you know the yeah then
maybe maybe uh the price of the call that
you're gonna sell will double and the whole thing would be
free yeah okay if you can have amazing timing
you have to ask yourself is your timing good enough to buy the call
at the right time if you buy the call and the stock
doesn't go up a lot soon then the whole plan would probably fail
theta decay time decay would lower the price of the call that
you bought and would also lower the price of the
call that you were planning to sell at some point
think about the intel call example we talked about to make this strategy work
you would need to you would need for the 70 cent call
which you were hoping to sell someday to double in
price to a dollar forty before the expiration
date all right so once again you would buy
this one and you would have to hope that before
expiration that this one doubles in price i mean that's asking a
lot and i mean this expiration date it's
it's only a it's a month and a half out so if you bought this call and then
intel just day after day goes sideways or goes down
then the price of the call that you bought is deteriorating
it's going down and the price of the call that you're planning on selling
against it now that's not doubling it's it's going down
so both parts of this plan would fall apart
if intel stock doesn't go up very soon it might go up but it might take too
long to go up it might go sideways for a while and then go up and then your
plan could still fail because of theta decay and and the
volatility collapse as well if you buy a stock
you know right when it swings low and it's volatile
and then you know the stock just kind of if it just goes sideways after that then
the volatility component of the option price could also collapse
so only attempt this if you have great timing or are really
lucky and you don't mind taking the risk all
right that's the point here so am i recommending this not really
also by the way think about you could think of it this way uh
if you bought this call and you had amazing timing or you were really lucky
and the the stock price just shoots up immediately
after you buy the call why not just go ahead and you know dump that call
just sell it off for a really good profit you know what i
mean the sell the call that you bought and
you you'll probably have a good profit and just get out of it why you know
sell a a call against it to make it a spread
and hold on to that trade you know because now you're rea
because now you're you know you buy the call at the perfect time and it goes up
here why sell a call against it just take
your profits because if you sell a call for a spread and now you stay in the
trade you're risking the stock just dumping after that right because now the
stock is probably expensive so there are some arguments against
doing this it's an interesting idea if you want to
try it i can't stop you but i just want you to be aware of it in
case you see a youtube video or you hear about it
from somebody recommending it i certainly do not
there are better ways one of the better ways is just to put on the vertical
debit spread immediately all at once and that way you know that way you're paying
less up front and it just seems less risky alright so
i hope this was a warning to you i hope it helped you and maybe give you
some ideas of things not to do and maybe uh opened your eyes to how
much better just a regular old vertical spread
really can be okay all right thanks a lot for watching and listening be
careful out there folks don't just believe everybody on youtube
i'll talk to you again soon
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