Call Ratio Spread

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The ratio spread is a neutral strategy in options trading that involves buying a number of options and selling more options of the same underlying stock and expiration date at a different strike price. It is a limited profit, unlimited risk options trading strategy that is taken when the options trader thinks that the underlying stock will experience little volatility in the near term.

Call Ratio Spread

Using calls, a 2:1 Call Ratio Spread can be implemented by buying a number of calls at a lower strike and selling twice the number of calls at a higher strike.

Limited Profit Potential

Maximum gain for the Call Ratio Spread is limited and is made when the underlying stock price at expiration is at the strike price of the options sold. At this price, both the written calls expire worthless while the long call expires in the money.

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Unlimited Upside Risk

Loss occurs when the stock price makes a strong move to the upside beyond the upper breakeven point. There is no limit to the maximum possible loss when implementing the Call Ratio Spread strategy.

Little or No Downside Risk

Any risk to the downside for the Call Ratio Spread is limited to the debit taken to put on the spread (if any). There may even be a profit if a credit is received when putting on the spread.

Breakeven Point(s)

There are 2 break-even points for the ratio spread position. The breakeven points can be calculated using the following formulae.

Using the graph shown earlier, since the maximum profit is $500, the maximum profit expressed in points is therefore equal to 5. Adding this to the higher strike of $45, we can calculate the breakeven point to be $50. (See example below)

Example

Suppose XYZ stock is trading at $43 in June. An options trader executes a 2:1 ratio call spread strategy by buying a JUL 40 call for $400 and selling two JUL 45 calls for $200 each. The net debit/credit taken to enter the trade is zero.

On expiration in July, if XYZ stock is trading at $45, both the JUL 45 calls expire worthless while the long JUL 40 call expires in the money with $500 in intrinsic value. Selling or exercising this long call will give the options trader his maximum profit of $500.

If XYZ stock rallies and is trading at $50 on expiration in July, all the options will expire in the money but because the trader has written more calls than he has bought, he will need to buy back the written calls which have increased in value. Each JUL 45 call written is now worth $500. However, his long JUL 40 call is worth $1000 and is just enough to offset the losses from the written calls. Therefore, he achieves breakeven at $50.

Beyond $50 though, there will be no limit to the loss possible. For example, at $60, each written JUL 45 call will be worth $1500 while his single long JUL 40 call is only worth $2000, resulting in a loss of $1000.

However, there is no downside risk to this trade. If the stock price had dropped to $40 or below at expiration, all the options involved will expire worthless. Since the net debit to put on this trade is zero, there is no resulting loss.

These examples use standard U.S. stock options with a 100-share contract size and matching expiration dates. Related structures can use ETF, index or futures options, but contract multipliers, exercise style, settlement and the underlying price range can differ. A stock’s zero price floor must not be assumed for every futures contract.

Commissions

For ease of understanding, these examples exclude commissions, fees and financing costs. Include all costs when comparing an actual position; there is no universal commission amount.

For active traders, transaction costs can consume a significant part of returns. Compare the full commission and fee schedule, exercise and assignment charges, and bid-ask spreads. The cost of entering and closing every leg matters.

Similar Strategies

The following strategies offer related market exposure. Compare their construction, cost, maximum loss and assignment obligations; a similar outlook does not mean identical risk.

Variable Ratio Write

Short Strangle (Sell Strangle)

Short Straddle (Sell Straddle)

Stock Repair

A stock-repair overlay can reduce the breakeven price of an existing holding while capping its recovery. The result depends on the original stock cost, strikes and actual net option premium. A zero-premium overlay is not always available; fees and any net debit add to downside loss. It neither guarantees recovery nor universally caps the outcome at exactly breakeven.

Put Ratio Spread

The ratio spread can also be constructed using puts. The Put Ratio Spread is similar to the Call Ratio Spread strategy but has a slightly more bullish and less bearish risk profile.

Backspread (Reverse Ratio Spread)

The converse strategy to the ratio spread is the backspread. Backspreads are used when large movements is expected of the underlying stock price.

Before expiration and assignment

The diagrams and worked outcomes describe expiration payoffs, not an option’s market price before expiration. Time decay, implied volatility, rates, dividends and bid-ask spreads affect early closing values. American-style short options can be assigned early; a protective long option is not automatically exercised when a short leg is assigned. Closing or exercising one leg can change the remaining position’s risk.