During the past five weeks, we have been discussing a calendar spread strategy on Shanda Interactive (SNDA). Not only have we dissected the strategy, but we have also followed a mock trade using a real-world example so traders could see how the strategy works. The idea behind Real-World Trading is to show how strategies work, especially with day-to-day and week-to-week changes in price and implied volatility [IV]. In this particular case, this mock trade has worked almost as perfectly as we could want.

This will be the last article on this particular strategy, but this doesn't mean that a trade like this would always be closed out at this point. In review, a calendar spread takes advantage of a volatility skew, as well as expected sideways movement in the underlying. The idea is that the short option will see time decay at a much faster rate than the long option. At the same time, we would like to see the long option increase in IV to raise its value. Below is the data for this trade, along with a risk graph as of Friday, September 11.

August 4, 2009
SNDA @ 50.60
Sell 1 Sep09 50 Call @ 4.65 [IV=61.3]
Buy 1 Mar10 50 Call @ 7.05 [IV=41.9]
Cost = $240
Max Risk = $240
Max Profit = $359.50
Downside Breakeven = $42.07
Upside Breakeven = $62.09

August 7, 2009
SNDA @ 47.83
Short 1 Sep09 50 Call @ 3.15 [IV=62.4]
Long 1 Mar 10 50 Call @ 5.65 [IV=43.1]
Debit [Max Risk] = $240
Max Profit = $376
Current Profit = $10
Downside Breakeven =$41.69
Upside Breakeven = $62.85

August 14, 2009
SNDA @ 46.27
Short 1 Sep09 50 Call @ 2.13 [IV=62.8]
Long 1 Mar 10 50 Call @ 5.00 [IV=44.8]
Debit [Max Risk] = $240
Max Profit = $399
Current Profit = $43
Downside Breakeven =$41.16
Upside Breakeven = $63.95

August 21, 2009
SNDA @ 48.58
Short 1 Sep09 50 Call @ 2.78 [IV=63.0]
Long 1 Mar 10 50 Call @ 6.15 [IV=45.3]
Debit [Max Risk] = $240
Max Profit = $406
Current Profit = $97
Downside Breakeven =$41.00
Upside Breakeven = $64.29

August 28, 2009
SNDA @ 51.16
Short 1 Sep09 50 Call @ 3.50 [IV=59.3]
Long 1 Mar 10 50 Call @ 7.20 [IV=43.2]
Debit [Max Risk] = $240
Max Profit = $377
Current Profit = $130
Downside Breakeven =$41.66
Upside Breakeven = $62.91

September 11, 2009
SNDA @ 48.95
Short 1 Sep09 50 Call @ 0.70 [IV=41.9]
Long 1 Mar10 50 Call @ 5.90 [IV=44.6]
Debit [Max Risk] = $240
Max Profit = $396
Current Profit = $280
Downside Breakeven =$41.23
Upside Breakeven = $63.81

Figure 1: Risk Graph of SNDA Calendar Spread

We began this mock trade on August 4 when SNDA shares were trading at $50.60. As of the close of trading on Friday, September 11, SNDA was priced at $48.95. As a result, the short call has depreciated in value to 70-cents, a loss of nearly $4. However, the long option as lost just $1.15 in value, leaving the trade with a profit of $280. Considering that our max risk was $240, exiting this trade would result in a profit of 117 percent-not bad for a trade lasting just 5 weeks. Exiting the trade at this point isn't the only option, either.

At this point in the trade, we could take our profit of approximately $280, which is a very nice gain. However, there are other exit strategies as well. First, a trader could wait for expiration to try to get more of the max profit. If the stock closes Friday at $50, the max profit would be reached. At this point, a new calendar spread could be set up to take advantage of another month of sideways trading. Another option would be to get out of the short position and just hold the March call if gains were expected in the months to come.

Overall, this trade was successful for several reasons: First, the stock remained near $50, which led to time decay in the short option at a much faster rate than in the March call. Second, IV on the long call moved higher by nearly three points, which added to the profits in this trade.

Next week we will begin a new strategy and I would love to hear what strategy our readers would like to see discussed. My forum, which you may access through "Ask the Traders" from the Discussion board on the homepage of Optionetics.com.,is always open for suggestions and comments so that we can all learn from each other.


Jody Osborne
Senior Writer & Options Strategist
Optionetics.com ~ Your Options Education Site
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