Back Spread

A backspread involves buying more Options than are sold. Back Spreads are the inverse of a Ratio Spread strategy where there are a greater number of Short positions than Long. An alternative term is reverse Ratio Spread.

Backspreads are defined risk and unlimited profit strategies which benefit from an increase in Volatility.

Back Spreads can be constructed with Call or Put Options. The former being a Bullish strategy, the latter Bearish.

Backspreads have some similarities with a Straddle or Short Broken Wing Butterfly strategy in that the price must move significantly in order for them to become profitable. Where they differ from the Straddle is that the Short position helps to reduce the cost basis for the position although this advantage comes at the expense of limiting the potential profit if the price moves lower (in the case of call backspreads) or higher (for put backspreads).



See the Profit & Loss diagram of the back spread strategy at Option Creator

Example
XYZ is trading at $205

Long 2 x Out Of The Money $210 Strike Call for 1.6
Short 1x In The Money $200 Strike Call for 6.5

Net credit received: $330

All options expire with XYZ still trading at $205

Long 2 x Out Of The Money $210 Strike Calls are worthless ($320) debit.
Short 1x In The Money $200 Strike Call is $150 credit.

This incurs a loss (net debit) of $170.

All options expire with XYZ trading at $200

Long 2 x Out Of The Money $210 Strike Calls are worthless ($320) debit.
Short 1x In The Money $200 Strike Call is $650 in credit.

This generates a net profit of $330

All options expire with XYZ trading at $225

Long 2 x $210 Strike Calls are In The Money: $3000 credit.
Short 1x In The Money $200 Strike Call is In The Money: ($2500) debit.
$330 credit collected from Short Call.

Net profit = $3000 - $2500 + $330 = $830

Position generates a net profit of $340