A bear call spread is a type of vertical spread, meaning that two options within the same expiry month are being traded.
One call option is being sold, which generates a credit for the trader. Another call option is bought to provide protection against an adverse move.
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The sold call is always closer to the stock price than the bought call.
As the name suggests, this trade does best when the stock declines after the trade is opened.
However, there can be many cases where this trade can make a profit if the stock stays flat and even if it rises slightly.
Bear call spreads are risk defined trades, there are no naked options here, so they can be traded in retirement accounts such as an IRA.
Traders should have a bearish outlook on the stock and ideally look to enter when the stock has a high implied volatility rank.
Applovin (APP) is showing an IV Percentile of 99% in advance of their earnings announcement on November 4th.
Assuming we have a bearish outlook on APP stock, we can run the Barchart’s Bear Call Spread Screener and find the following results:
Below are the full parameters for this scan:
APP Bear Call Spread Example
Let’s analyze the second line item, which has a Max Profit% of 10.29%.
This Bear Call Spread on APP stock involves selling the $260-strike November 6 call and buying the $275-strike call.
That spread could be sold for around $1.40 which means the trader would receive $140 into their account. The maximum risk is $1,360 for a total profit potential of 10.29% with a loss probability of 22.1%.
The breakeven price is $261.40, which is 14.22% above the current stock price. This can be calculated by taking the short call strike and adding the premium received.
As the spread is $15 wide, the maximum risk in the trade is 15 – 1.40 x 100 = $1,360.
A More Aggressive Version
Let’s analyze another result from the screener, this time the one with a higher Max Profit Percentage.
The example involves selling the $240-strike November 6 call and buying the $260-strike call.
That spread could be sold for around $4.50 which means the trader would receive $450 into their account. The maximum risk is $1,550 for a total profit potential of 29.03% with a loss probability of 38.2%.
The breakeven price is $244.50, which is 6.84% above the current stock price.
The expected move for APP for the November 6 expiration is between 194.85 and 262.85.
Mitigating Risk
Thankfully, Bear Call Spreads are risk defined trades, so they have some built in risk management.
The most the first example can lose is $1,360 and the second example could lose a maximum of $1,550.
Position sizing is important so that a 100% loss does not cause more than a 1-2% loss in total portfolio value.
Bear Call Spreads can also contain early assignment risk, so be mindful of that if the stock breaks through the short strike and it’s getting close to expiry.
Trades held over earnings can be risky as they leave little room for adjustments if the stock makes a large, adverse move.
Please remember that options are risky, and investors can lose 100% of their investment.
This article is for education purposes only and not a trade recommendation. Remember to always do your own due diligence and consult your financial advisor before making any investment decisions.
On the date of publication, Gavin McMaster did not directly have a position in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
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