# What Is A Diagonal Spread, And How Does It Work

November 23, 2022

Options contracts are one of the most complex financial products used by traders and investors to benefit from the price fluctuations of any given asset. Option contracts, like futures contracts, reduce the buyer's risk by allocating a predefined price to an asset. Unlike futures contracts, however, option purchasers are not required to acquire the asset before trading.

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**What is a
Diagonal Spread?**

The diagonal spread is
an alternative to traditional calendar spread strategies that may be profitable
if used appropriately. The amount of flexibility and adaptability provided by a
"low intrinsic value" environment approach is unparalleled.

**Who Can
Benefit from the Diagonal Option Spread?**

Trading several
options with varying expiry dates and strike prices is part of the diagonal
spread strategy. To master the approach, substantial technical expertise and
practices are necessary. However, if you're well-versed in the domain of
options, this is an unquestionably good method to use.

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**Break
Even Point**

Determining the
breakeven point while utilizing a diagonal spread approach may be difficult due
to the many factors involved. In addition, this method, as previously stated,
has two strike prices and two expiry dates. As a result, a complicated pricing
model is necessary to assess the value of the back-call months when the
front-month call expires.

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**Diagonal
Spread Strategy Tips**

**Donâ€™t Overpay:****In Bearish Markets, Make Adjustments:**Unfortunately, your directional bias sometimes fails. For example, once you make a diagonal call, the price of an asset may fall. In contrast, the price of an asset may rise after you place a diagonal put spread. Don't be alarmed if this occurs; it's the beauty of the diagonal spread. Remember that there is a spacing between your long and short alternatives based on your arrangement.

** **

**Implied
Volatility Effect**

Although you may
expect neutral movement in the asset class's price (if it's striking price A)
near to the front month's expiry when trading the diagonal spread call, higher
implied volatility might work in your favor. If implied volatility exists, you
might sell another call option at strike price A and collect a more significant
premium. The same is true for the diagonal spread out.

** **

**Wrapping
Up**

The diagonal spread is
a hybrid approach that is part vertical and part calendar and has both
directional and temporal components. If the underlying asset's price increases
in your favor while using this method, you may be paid rapidly while also
benefiting in the long run. As a result, the diagonal spread is perhaps one of
the most appealing option strategies accessible.

Contrary to common
assumption, futures and options trading is not as tricky as it seems. You will
utilize these cutting-edge financial products more effectively if you have a
thorough grasp of them.

Source: www.motilaloswal.com

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