What is a call spread and how does it work?
A bullish (or 'long') call spread is actually two separate option trades.  The A/B notation is, respectively, the strike price of each trade. The first 'leg' of the strategy, corresponding to B, is the sale of a call option at a strike price of B (in this case $165).  The proceeds from this sale, after transaction costs, are generally used to offset the cost of the second 'leg'. The second 'leg' of the strategy, corresponding to A, is the purchase of a call option at a strike price of A (in this case $145). Now, the important part: the payoff.  You can visualize it as so. This is where it gets a teeny bit math-y.  Below, P is the profit of the strategy, K1 is the strike price of the long call, K2 is the strike price of the short call, T1 is the premium paid for the long call option at the time of purchase, T2 is the premium received for the short call at the time of sale, and S is the current price of the stock.  For simplicity's sake, we will assume that your position quantity is a single option contract and transaction costs are zero (which they are not). P = (T2 - max(0, S - K2)) + (max(0, S - K1) - T1) Concretely, let's plug in the strikes of the strategy Nathan proposes, and current prices (which I pulled from the screen).  You have: P = (1.85 - max(0, 142.50 - 165)) - (max(0, 142.50 - 145)) = -$7.80 If the stock goes to $150, the payoff is -$2.80, which isn't quite break even -- but it may have been at the time he was speaking on TV. If the stock goes to $165, the payoff is $12.20. Please do not neglect the cost of the trades!  Trading options can be pretty expensive depending on the broker.  Had I done this trade (quantity 1) at many popular brokers, I still would've been net negative PnL even if NFLX went to >= $165.
Yes, it can buy back the call, but much before stock hits the $30 mark.   Let us say you got 1$ from selling the call. So the total money in your account is 4$ + 1 $ = 5 $. When stock hits 10$ (your strike), the maintenance margin is 5$. As soon as stock goes past 10, your maintenance margin is violated. So broker will buy back your call (at least IB does that, it does not wait for a margin call). Now if the stock gapped up from 8 to 30,then yes, broker will buy it back at 30, so your account will have a negative balance. Assume the call cost 20$ when stock hit 30, your balance is: 5 - (30-10) = -15. Depending on broker, I suppose they will ask you to bring your account balance back up to positive. If they don't do that, they risk going out of business. "As an aside, on most securities with a spread of the minimum tick, there would be no bid ask spread if so-called ""locked markets"", where the price of the best bid on one exchange is equal to the price of the best ask on another, were permitted. It is currently forbidden for a security to have posted orders having the same price for both bid and ask even though they're on different exchanges. Option spreads would narrow as well as a result." "At my soon to be legendary Stock Options Cafe, I recently wrote an article ""Betting On Apple at 9 to 2.""  It described a trade in which a 35% move in a stock over a fixed time (2 years) would result in a 354% gain in one's bet. In this case, the options serve to create remarkable leverage for speculators. In general, option help provide liquidity and extend the nature of the risk/reward curve.  There are option trades that range from conservative (e.g. a 'covered call') to wildly speculative, as the one I described above." I think you're over complicating it! There is the market maker in the pure sense as what chilldontkill said - a bookie, a middleman. They are just the brokers in between the buyers and sellers, and they simply make profit off of the spread differential.  But market maker is also used to refer to large, high volume buyers and sellers that can influence the price because they control a larger % of volume. These only really exist on low volume products, and they slowly ween out the larger the volume. On higher volume products, I like to refer to them as institutions - that is, well informed, large pockets - whether is be central banks, clearing houses, hedge funds, boutique firms. These are the people who are generally in the know and they often bet against eachother.hope this helps ... Successful covered calls are short term capital gains. The amount of time you have owned the underlying security is irrelevant. The gain occurred in the option period which will be an amount of days less than needed for a long term capital gain classification. Failed Covered calls can be either as the date you acquired the stock you are forced to sell determines their classification. "First, as @littleadv mentions, and as I've pointed out before, anyone who participates in a market using limit orders (which, by the way, should be every non-professional investor) is by definition a market maker.  So, I will assume that your question pertains both to official market makers and to ""retail investors"" using limit orders. When you remark that there are such ""tight spreads"" in ""liquid assets"", what you are really saying is ""wow, look at all the market makers in these products!""  That's the benefit of electronic trading and algorithmic traders -- millions of participants each with their own opinion of the value of a financial instrument, trying to find people who have very specifically opposing opinions of the value of that same instrument.  This is called price discovery, and is the entire point of financial markets. So, you ask why are there all these market makers present to create such tight spreads in assets like SPY?  Answer: Because they can make money in these markets: Imagine (towards a contradiction) that market makers thought they couldn't make money by offering tight spreads in SPY, and so SPY had a wider spread than it actually does.  For example, say the highest bid for SPY was $99.98 and the lowest ask was $100.01.  Now imagine that a market maker with perfect knowledge of the future came along knowing that he would be able to sell SPY for $100.01 in 5 minutes.  Then he would load up as many buy orders as he could for $100.00 or lower.  (He wouldn't bid $100.01 or higher because those trades would not be profitable according to his information -- at least not 5 minutes from now.)  So the spread had previously been $0.03 and then suddenly it was $0.01, all because a market maker with better information came along and realized he could make money by creating a tighter market! Now, nobody has perfect knowledge of the future, which is why markets are never infinitely tight or infinitely liquid.  Each market maker has to weigh possible profits against the probability that those profits will actually turn into losses.  But if one market maker decides not to participate in a particular instrument, there's bound to be another market maker who will happily take his place.  So the very fact that there are so many market participants with resting buy/sell orders for SPY right now is proof that there are market makers able to make money doing so.  If they could not make money, they wouldn't be there, and the spread would be wider. 10-15 years ago, before electronic trading and algorithmic trading, the number of market participants was far lower, and the spreads were far wider, meaning retail investors like you and me had a much harder time making money.  The only people making money were the institutional investors, the brokers, and the exchanges.  Now that all these new millions of players are present in the market, retail investors like you and me get to participate and make money too." "As an exercise, I want to give this a shot.  I'm not involved in a firm that cares about liquidity so all this stuff is outside my purview.  As I understand it, it goes something like this: buy side fund puts an order to the market as a whole (all or most possibly exchanges).  HFTs see that order hit the first exchange but have connectivity to exchanges further down the pipe that is faster than the buy side fund.  They immediately send their own order in, which reaches exchanges and executes before the buy side fund's order can.  They immediately put up an ask, and buy side fund's order hits that ask and is filled (I guess I'm assuming the order was a market order from the beginning).  This is in effect the HFT front running the buy side fund.    Is this accurate?  Even if true, whether I have a genuine issue with this... I'm not sure.  Has anyone on the ""pro-HFT"" side written a solid rebuttal to Lewis and Katsuyama that has solid research behind it?" You don't necessarily have to use a LEAP to do a spread. Since you are doing a covered call, I'm assuming that you would be comfortable with having that call exercised and you are bullish on the stock. So doing a spread trade with the short call option would essentially be capping your maximum profit without risking the obligation to sell the stock below market value.  An example for the payoff from a bull call spread: long lower strike call, short higher (covered) strike call can be found here "Investopedia explains how a stock split impacts the stock's options: Each option contract is typically in control of 100 shares of an underlying security at a predetermined strike price. To find the new coverage of the option, take the split ratio and multiply by the old coverage (normally 100 shares). To find the new strike price, take the old strike price and divide by the split ratio. Say, for example, you own a call for 100 shares of XYZ with a strike price of $75. Now, if XYZ had a stock split of 2 for 1, then the option would now be for 200 shares with a strike price of $37.50. If, on the other hand, the stock split was 3 for 2, then the option would be for 150 shares with a strike price of $50. So, yes, a 2 for 1 stock split would halve the option strike prices.  Also, in case the Investopedia article isn't clear, after a split the options still control 100 shares per contract. Regarding how a dividend affects option prices, I found an article with a good explanation: As mentioned above, dividends payment could reduce the price of a stock due to reduction of the company's assets. It becomes intuitive to know that if a stock is expected to go down, its call options will drop in extrinsic value while its put options will gain in extrinsic value before it happens. Indeed, dividends deflate the extrinsic value of call options and inflate the extrinsic value of put options weeks or even months before an expected dividend payment.  Extrinsic value of Call Options are deflated due to dividends not only because of an expected reduction in the price of the stock but also due to the fact that call options buyers do not get paid the dividends that the stock buyers do. This makes call options of dividend paying stocks less attractive to own than the stocks itself, thereby depressing its extrinsic value. How much the value of call options drop due to dividends is really a function of its moneyness. In the money call options with high delta would be expected to drop the most on ex-date while out of the money call options with lower delta would be least affected. If a stock is expected to drop by a certain amount, that drop would already have been priced into the extrinsic value of its put options way beforehand. This is what happens to put options of dividend paying stocks. This effect is again a function of options moneyness but this time, in the money put options raise in extrinsic value more than out of the money put options. This is because in the money put options with delta of close to -1 would gain almost dollar or dollar on the drop of a stock. As such, in the money put options would rise in extrinsic value almost as much as the dividend rate itself while out of the money put options may not experience any changes since the dividend effect may not be strong enough to bring the stock down to take those out of the money put options in the money. So, no, a dividend of $1 will not necessarily decrease an option's price by $1 on the ex-dividend date.  It depends on whether it's a call or put option, and whether the option is ""in the money"" or ""out of the money"" and by how much." On expiry, with the underlying share price at $46, we have : You ask :  How come they substract 600-100. Why ? Because you have sold the $45 call to open you position, you must now buy it back to close your position.  This will cost you $100, so you are debited for $100 and this debit is being represented as a negative (subtracted); i.e., -$100 Because you have purchased the $40 call to open your position, you must now sell it to close your position.  Upon selling this option you will receive $600, so you are credited with $600 and this credit is represented as a positive (added) ; i.e., +$600. Therefore, upon settlement, closing your position will get you $600-$100 = $500.  This is the first point you are questioning.   (However, you should also note that this is the value of the spread at settlement and it does not include the costs of opening the spread position, which are given as $200, so you net profit is $500-$200 = $300.) You then comment :  I know I am selling 45 Call that means : As a writer: I want stock price to go down or stay at strike. As a buyer: I want stock price to go up. Here, note that for every penny that the underlying share price rises above $45, the money you will pay to buy back your short $45 call option will be offset by the money you will receive by selling the long $40 call option.  Your $40 call option is covering the losses on your short $45 call option. No matter how high the underlying price settles above $45, you will receive the same $500 net credit on settlement.  For example, if the underlying price settles at $50, then you will receive a credit of $1000 for selling your $40 call, but you will incur a debit of $500 against for buying back your short $45 call.  The net being $500 = $1000-$500.  This point is made in response to your comments posted under Dr. Jones answer. Question: are you saying that buying a call is better than buying a vertical spread regardless of fees, or only because of fees? If the former, you are saying that buying a call and selling a vertical spread will always be profitable, which effectively means you're going short an out-of-the-money call. While that's a good strategy, it doesn't guarantee profit, and will lose money exactly when the vertical spread is a better strategy than buying the call outright. The most direct answer to your question in comments: if the stock goes down, you lose less money with the vertical spread than you do with a simple call. In return for this lower risk, you give up gains if the stock goes above the higher calls strike price. A bid is an offer to buy something on an order book, so for example you may post an offer to buy one share, at $5. An ask is an offer to sell something on an order book, at a set price. For example you may post an offer to sell shares at $6. A trade happens when there are bids/asks that overlap each other, or are at the same price, so there is always a spread of at least one of the smallest currency unit the exchange allows. Betting that the price of an asset will go down, traditionally by borrowing some of that asset and then selling it, hoping to buy it back at a lower price and pocket the difference (minus interest). So, let's say as per your example you borrow 100 shares of company 'X', expecting the price of them to go down. You take your shares to the market and sell them - you make a market sell order (a market 'ask'). This matches against a bid and you receive a price of $5 per share. Now, let's pretend that you change your mind and you think the price is going to go up, you instantly regret your decision. In order to pay back the shares, you now need to buy back your shares as $6 - which is the price off the ask offers on the order book. Because of this spread, you have lost money. You sold at a low price and bought at a high price, meaning it costs you more money to repay your borrowed shares. So, when you are shorting you need the spread to be as tight as possible. You will lose out on your spread, you always pay a spread. Also, if you are looking at a strategy for using stop losses, try taking into account the support lines if you are going long. So, if the stock is on an upward trend but is dropping back from profit taking, your best best is to take a position closest to the next support line. You place your stop just below the support. this will give you the best chance of a winning position as most technical analysts will have looking towards the support as a buy back area. Obviously, in a bear market the opposite is true.  If you have taken your position and the market move past the first resistance line, then bring your stop to just below that line as once resistance is broken, it then becomes support. You then have a profitable position with profit locked in. Leave the position to break the next resistance and repeat. Yes. It seems to me you got it right.  On my site, Stock Options Cafe, my last post was an illustration of a bullish call spread. In this case, I bought a 50 call, and sold the 60 call. This is a debit order as I was paying money, not collecting a new premium. They make money off you by increasing the spread you buy and sell your stocks through them.  So for example, if the normal spread for a stock was $10.00 for a buy and $10.02 for a sell, they might have a spread of $9.98 for the buy and $10.02 for the sell. So for an order of 1000 shares (approx. $10000) they would make $0.02 per share which would equal $20.00.