Calendar Spreads: Profit from Time Decay

What is a Calendar Spread?

A calendar spread (also called horizontal or time spread) involves selling a near-term option and buying a longer-term option at the same strike. Profit from time decay differential and volatility expansion in back month.

Calendar Spread Structure:

• Sell front-month option (e.g., 30 DTE)
• Buy back-month option (e.g., 60-90 DTE)
• Same strike price (typically ATM)
• Net debit paid (back month costs more)

Why Calendar Spreads Work

• Time Decay Differential: Front month decays faster
• Vega Advantage: Back month gains more from IV increase
• Neutral Strategy: Profit zone around strike
• Adjustable: Can roll or adjust as needed

Best Market Conditions:

• Neutral to slightly directional outlook
• Expecting volatility to stay elevated or increase
• Stock trading near strike price
• After sharp moves (mean reversion play)

Strike Selection:

• ATM Calendar: Neutral bias, max profit at strike
• OTM Calendar: Directional bias, cheaper entry
• Call Calendar: Slight bullish bias
• Put Calendar: Slight bearish bias

Management Strategy:

1. Let front month expire worthless (ideal)
2. Roll front month weekly/monthly for income
3. Close position at 25% profit
4. Adjust strike if price moves away

Risks to Consider:

• Large directional moves hurt position
• IV crush if implied volatility drops
• Limited profit potential
• Requires active management