Posted in Finance, Accounting and Economics Terms, Total Reads: 390
Definition: Christmas Tree
Christmas tree is the name given to an option trading strategy that involves buying one option and selling two options at a higher strike price, if call and at a lower strike price, if put. Thus if we draw this structure, the strike price of the long option with lower strike price is located below the two successively higher written calls and hence loosely resembles a Christmas tree. These calls should have the same underlying asset and same expiration date.
This strategy is used by the investor when he expects the prices to move upwards. However unlike ratio spread, in this case the profits are limited due to the two short call options. The staggered strike prices for the written calls in the Christmas tree strategy is used to reduce the amount of loss incurred when the share price rises more than expected. This is unlike the ratio spread, where the call options with same strike price are used.