Many spread strategies assume that the number of options sold equals the number of options purchased. However, in the real world, there is no requirement that an equal number of options be bought as sold. When the number of options bought in a spread differs from the number of options sold, it is called a ratio spread. A ratio spread can be viewed as a variation of an existing option strategy, where additional options in one leg are bought or sold to create an unbalanced spread. In essence, an unbalanced-spread strategy is simply a spread in which there is a difference between the number of options in one leg (or side) versus the number in another leg (or side).
There can be a large number of variations in unbalanced spreads, so each should be analyzed separately to determine the risks and rewards associated with each unique spread. This chapter addresses spreads in which the number of long options differs from the number of short options, assuming that all options expire on the same date. An unbalanced position can be taken on any spread strategy; however, this chapter illustrates these ratio principles using a vertical spread. The first part of this chapter addresses where more options are sold, and the second part addresses where more options are bought.
An unbalanced (ratio) spread is defined broadly as any option strategy in which the number of options bought is different than the number sold (see Table 13.1
). The trader, for example, ...