Credit Spread
Sell an option closer to the money and buy one further out for a net credit.
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What Is a Credit Spread?
A credit spread involves selling an option closer to the current stock price and simultaneously buying a further out-of-the-money option for protection. Because the option you sell is worth more than the one you buy, you collect a net credit upfront — the trade pays you to enter. There are two main types: a bull put spread (sell a higher-strike put, buy a lower-strike put — bullish or neutral) and a bear call spread (sell a lower-strike call, buy a higher-strike call — bearish or neutral). In both cases, you collect a credit immediately and keep it if the stock stays on the right side of your short strike at expiration. The long option you buy limits your maximum loss to the spread width minus the credit received. Credit spreads are the cornerstone of systematic premium-selling strategies used by many professional traders.
When to Use a Credit Spread
Use credit spreads when you want to collect premium with defined, limited risk. They are most effective in high-IV environments where options are expensive — you collect more credit for the same strike distance. Bull put spreads work when you expect the stock to stay flat or rise moderately. Bear call spreads work when you expect the stock to stay flat or decline moderately. The probability of profit (PoP) on a credit spread is typically 65–80% when placed at 1 standard deviation OTM, making them high-probability trades. Avoid credit spreads before binary events (earnings, FDA decisions) where the stock can gap through your short strike overnight.
Trade Structure
Sell 1 option closer to the money (the premium-collecting leg) and buy 1 option further out of the money (the protection leg), same expiration. For a bull put spread: sell a higher-strike put, buy a lower-strike put. For a bear call spread: sell a lower-strike call, buy a higher-strike call. The maximum loss is capped by the long option, unlike a naked short position.
Max Profit
Net credit received × 100. This is the maximum gain — earned in full if the stock closes on the right side of the short strike at expiration. For a bull put spread, the stock must close above the short put strike. For a bear call spread, below the short call strike. The credit is yours to keep regardless of how far the stock moves in your favor.
Max Loss
(Spread width − net credit received) × 100. For example, a 5-point spread sold for $1.50 has a maximum loss of ($5 − $1.50) × 100 = $350 per contract. This loss is realized only if the stock closes beyond the long option's strike at expiration — a complete loss of the spread. In practice, most traders close at a predetermined loss threshold (e.g., 2× the credit received) rather than allowing the full loss.
Breakeven
For a bull put spread: short put strike minus credit received per share. For a bear call spread: short call strike plus credit received per share. For example, selling a $100/$95 bull put spread for $1.50 breaks even at $98.50 — the stock must close above $98.50 to avoid a net loss.
Greeks Profile
Theta is positive — you are a net seller of premium, and time decay works in your favor as both options lose value each day. Delta reflects your directional bias (positive for bull put spreads, negative for bear call spreads) but less extreme than a single-leg position. Vega is negative — a drop in implied volatility (IV crush) after an event benefits you, as both options become cheaper and you can close the spread for a profit. Gamma is negative — sharp stock moves near the short strike hurt the position, especially close to expiration.
Credit Spread Trading Tips
- Sell the short strike at 1 standard deviation OTM (approximately 84% probability of profit) for a balanced risk-reward profile.
- Manage credit spreads at 50% of maximum profit — close when you have captured half the credit rather than waiting for full expiration.
- IV crush after earnings can rapidly close a spread for a profit, even before the expiration date — this is a common use of credit spreads.
- Credit spreads work best in high IVR environments (IVR > 30) where you collect more premium per unit of risk.
- Watch for rolls: if the stock threatens your short strike before expiration, you can buy back the spread and sell a new one further out in time or strike.
- Avoid placing spreads with less than 7 DTE — gamma risk increases dramatically and small stock moves can cause outsized losses.
- Track the overall probability of profit across your portfolio of credit spreads — if all have the same directional bias, you have concentrated market risk.
- Credit spreads are the backbone of systematic premium collection — applied consistently over time, the edge of selling options at high IV compounds into a reliable return stream.