Back Spread

Understanding the Back Spread (or 1×2 Ratio Volatility Spread)

Options trading is full of strategies that sound like complicated recipes, but at their core they’are designed to manage risk and profit from different market conditions.

One of the more interesting strategies for traders who expect a strong move in volatility is the back spread, also known as the 1×2 ratio volatility spread.

What is a Back Spread?

A back spread is a ratio spread where a trader sells one option and buys a greater number of the same type of options at a different strike price.

The most common construction is a 1×2 ratio, meaning you sell 1 option and buy 2 options of the same expiration.

This can be done with either calls or puts.

Call Back Spread: Typically used when you expect the underlying asset to rise sharply.

Put Back Spread: Typically used when you expect the underlying asset to fall sharply.

How the Back Spread Works

Let’s take the call back spread as an example:

• Sell 1 at-the-money call option.
• Buy 2 out-of-the-money call options at a higher strike.

This creates a position where the downside risk is limited and the upside profit potential is significant if the underlying price rallies strongly. The extra long option provides leveraged exposure if the market takes off.

By the same token, in a put back spread:

• Sell 1 at-the-money put option.
• Buy 2 in-the-money call options at a lower strike.

creating a position where the upside risk is limited and the downside profit potential is significant if the underlying price falls strongly.

Also in this case, the extra long option provides leveraged exposure if the market goes down.