5.3.6. Diagonal Calendar Spreads
A calendar spread in which the nearby option and the deferred option have different strike prices is known as a diagonal calendar spread. The two legs of a diagonal spread have both a different strike price and a different expiration month. A long diagonal call (or put) spread can earn greater profits than a straight calendar spread if the price of the commodity is expected to increase (or decrease) at a moderate rate. Traders might like a long diagonal spread when they expect prices to be slightly bullish but volatilely low.
Example: Suppose corn is selling in the cash market at 376’0 and you are expecting prices to rise over the next few months. You execute the following diagonal spread:
Short Jul 390’0 Call @ 15’0
Long Sep 380’0 Call @ 22’0
Both of these options are well out of the money. This is a debit diagonal call because you have paid more for the long call than you have received for the short. When the July option expires, corn prices have climbed to 389’0. The July option expires out of the money, and you retain the 15-cent premium. But the September option is in the money. The premium now has intrinsic value and has retained much of its time value. You offset the September option and receive an 18-cent pre