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SPREADS
Overview
Spreads show the difference in price between two securities. Spreads are normally
calculated using options.
Interpretation
A spread involves buying one security and selling another with the goal of profiting from
the narrowing or expanding of the difference between the two securities. For example, you
might buy gold and short silver with the expectation that the price of gold will rise
faster (or fall more slowly) than the price of silver.
You can also spread a single security by buying one contract and selling another. For
example, buy an October contract and sell a December contract.
Example
The following charts show Live Hogs (top chart),
Pork Bellies (middle chart), and the spread between the Hogs and Bellies (bottom chart).
This spread involves buying the Hogs and shorting the Bellies with the anticipation that
Hogs will rise faster (or fall more slowly) than Bellies. You can see that during the
time period shown, both Hogs and Bellies decreased in price. As desired, the price of Hogs
fell less than the price of Bellies. This is shown by the spread narrowing from -10.55 to
-3.58, with a resulting profit of 6.97.
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