Even-money call spread after a stop-limit gap

Leftover stock after a stop-limit gap

A stop-limit gap is a sell stop that also carries a limit and therefore may not fill when the next open jumps through that limit, leaving the long stock still on the book. A stop-limit sell on a long stock can remain unfilled in that case, so the shares stay on the book as the decline continues.

After the illustrated decline, holding the original shares still needed about a 10 percent rebound to recover the purchase price, before commissions or dividends.

The cash bound on any repair

Averaging down with a second equal lot lowered the combined break-even but committed more cash, and a further decline would force the same choice again.

The protective put, as used here, is a risk method that bounds loss or exposure before entry and while the position is open. The same bound is the test applied to any repair: no extra cash, and remaining downside limited to the original share loss.

Editorial: averaging down fails that test because it adds cash and leaves the same choice open if the stock falls again.

The even-money one-by-two structure

The repair required a margin account, one at-the-money or in-the-money long call per hundred shares, and twice as many short out-of-the-money calls, with the net debit near zero or a small credit. An even-money repair is a one-by-two call structure sized to the long share count so premium paid and premium received net to about zero.

The vertical debit spread is the long lower-strike call paired with the short higher-strike call. In the worked tape, splitting the quoted markets produced a zero net difference between the long lower-strike calls and the short higher-strike calls. The strike width was treated as the spread's expiration value if the stock finished above the short strike.

One ticket and a precomputed break-even

The long and short calls were to be sent as one spread order that stated the debit or credit, so a single leg could not fill alone. An option spread is a long option and a short option entered together so the fill, the coverage, and the exit are one procedure rather than two independent tickets.

Short calls were covered by the long stock plus the long calls. The planned expiration path was assignment of the shares at the short strike and closing the vertical for the strike width.

A replacement break-even was calculated before entry as the share-price loss offset by the vertical's expiration value plus any dividend, not as a return to the original purchase price. That precomputed break-even is the share price at which the remaining stock loss equals the vertical's expiration value plus any collected dividend, calculated before the spread is entered.

Further decline and when the repair is unavailable

On a further decline, extra loss stayed on the original stock. The even-money spread added no cash on the downside, so the loss at the lower strike matched the unrepaired stock loss.

If the prior drop was already large or remaining time premium was thin, a near-even option-spread repair was described as unavailable.