You can use the call back spread if the market is volatile and you are anticipating a big move in your stock.

For a call back spread, you need to sell a call or calls at lower strike price, then buying a set of calls at higher strike price. This is done for small credit or lower debt so that if the stocks drop, your loss will be limited. However, you should understand that if the stocks go up, you now have an unlimited profit potential. This is because you now have more long calls than short calls. In order to maximize your profit potential, many investors opt for the in-the-money options because the options are more likely to end in-the-money.

For example, we can make a ratio back spread using in-the-money options if ABC company is historically volatile. Here, you will buy two of the 90 calls at \$2.10 and then sell one 80 call at \$8. Take a look at the following table:

 ABC trading @ \$ 87.20 Buy 2 ABC 90 Call @ \$2.10 \$420.00 Sell 1 ABC 40 Call @ \$8.00 (\$800.00) Credit from Trade (\$380.00)

In this call back spread, you will get \$380 ((8.00 – 4.20) x 100 shares). This is what you will get from entering the position. Supposing the stock drops below \$80, then you will be able to pocket the \$380. On the other hand, you can really make a lot of money if the stocks make a significant move upwards. The breakeven point for this option will be \$ 96.20. At \$ 96.20, the 80 calls will be \$ 16.20 (\$16.20 x 1). The 90 calls will then be \$12.40 (6.20 x 2). Considering your initial #380 credit, your ROI at this point will be 0. If the stock gets higher than the \$ 96.20, you now have an unlimited profit potential, depending on the stocks.

To compute for the upside breakeven, you can use the formula:

Upside Breakeven = Long strike price + ([Long strike – short strike] x # of short contracts) – net credit ÷ 100 (or + net debit)

In the above example, this would be:

90 + ([90 – 80] – 360/100

Your maximum loss for this spread would be when the stock reaches 90. This is because the long call would be without value and then your short call will be \$10. Taking into consideration your initial credit of \$380, your maximum loss would be \$620 (1 contract x \$10 x 100 – 380).

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