Calendar Spreads by Joe Corona and Bill Winger
Look at the different ways you can use this strategy.
The calendar spread, also known as the time spread or the horizontal spread, is so called because it exploits differences in time value between options. Time value is the difference between the option’s market price and its intrinsic value. The magnitude of the time value depends on a number of variables, including the strike price of the option, the price of the underlying, and the implied volatility of the option.
The calendar spread is composed of two options of the same type (both puts or both calls), with the same strike price, but with different expiration months. For example:
Short 1 ITI — Jan 55 call
Long 1 ITI — Mar 55 call
The objective of this spread — demonstrated later — is to profit from the faster time-value decay of the near-month option. In order to make sense of this technique, a clear understanding of time decay is required. The key point to remember is this: assuming — and this is a major assumption — all other variables
are held constant as expiration approaches, the price and time value of an option become progressively smaller.