A “gut spread” might sound like a good name for what happens when we habitually eat too many pizza rolls, but in the financial world, it means something very, very different.
A “gut spread” is a type of option spread, and in this scenario, our options are called “guts” because our put and call options are both in-the-money: our call option’s strike price is below market value and our put option’s strike price is above market value. Being in-the-money also means that these options are a little more expensive than their out-of-the-money kin; they have more intrinsic value, which is also why they’re referred to as “guts.” They’re hearty. If we buy both puts and calls, it’s a long gut spread; if we sell both puts and calls, it’s a short gut spread.
Why? Let’s say there’s a new ocean clean-up company on the scene that we’ve been looking at. They’ve got a unique business model for removing plastic from the water that involves ginormous, floating Roomba-looking things, and we’re not sure whether they’re going to be successful or not. In this situation, we might go with a long gut spread: we’re not sure whether the price of their stock will go up or down, but we’re sure it’s going to do one of the two in a big way, and we’re gonna make some money on it.
On the other hand, let’s consider Taxidonculous, a company that makes tax accounting software. Their stock has been humming along with no major fluctuations for a while now, and we expect that trend to continue. In this case, we might go with a short gut spread: we’ll get paid hefty premiums up front, since our options are in-the-money, and we’ll also probably (hopefully) avoid losing money since the stock price is relatively stable.
Related or Semi-related Video
Finance: What is Intrinsic Value (of An ...6 Views
Finance allah shmoop what is the intrinsic value of an
option All right this is brandi She owns a twelve
dollars strike price call option toe buy a share of
my fifteen minutes are up dot com a retirement home
chain for reality tv stars who recently gained self awareness
Well the stock is trading for fifteen bucks a share
of this moment Her strike price is twelve so the
intrinsic value of that option is fifteen minutes twelve or
three bucks that is it is three dollars in the
money and if brandy converted it into a share this
moment and then immediately sold the stock for fifteen dollars
in cash well she'd make three bucks But there's a
catch per call option doesn't expire for five weeks so
that three dollars in the money is actually worth more
than three dollars because she has data or time yet
to exercise and convert or just sell the option itself
So it's worth mohr because well a stock might go
up from fifteen dollars in overtime Stocks go up so
in the next five weeks well couldn't go up a
dime twenty cents twenty five cents and make that three
Dollars worth three ten three twenty three Twenty five Sure
sure it could happen So yeah that's The difference between
actual value and intrinsic value You get seita kickers in
there making the option's worth more than just converting them
into stock and selling them right there And yeah it
looks like our one and a half minutes are up
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