Credit Spreads: High-Probability Income Strategy

What Are Credit Spreads?

Credit spreads are defined-risk options strategies where you sell a premium option and buy a further OTM option for protection. You collect a net credit upfront and profit if the price stays away from your short strike.

Types of Credit Spreads:

1. Bull Put Spread (Bullish)

• Sell higher strike Put
• Buy lower strike Put (protection)
• Collect credit, profit if price stays above short strike
• Example: Stock at $100, Sell 95 Put, Buy 90 Put

2. Bear Call Spread (Bearish)

• Sell lower strike Call
• Buy higher strike Call (protection)
• Collect credit, profit if price stays below short strike
• Example: Stock at $100, Sell 105 Call, Buy 110 Call

When to Use Credit Spreads

• High IV Environment: Elevated premium to collect
• Defined Risk: Known max loss (spread width - credit)
• High Probability: Target 70-80% probability of profit
• Income Generation: Consistent monthly income

Strike Selection Guidelines:

• Target 1-2 standard deviations OTM
• Aim for 30-40% max profit (credit/width)
• 45-30 DTE (days to expiration) optimal
• 5-10 point spreads on stocks

Management Rules:

• Close at 50% profit (risk/reward optimal)
• Roll down/out if tested early
• Avoid holding through earnings
• Exit at 21 DTE to avoid gamma risk