Christmas Tree Options Strategy

What Is a Christmas Tree?

A Christmas tree is an options trading spread strategy achieved by buying and selling six call (or six put) options with different strikes but the same expiration dates for a neutral to bullish forecast. This is termed a long call Christmas tree when using calls or a put Christmas tree when using put options. The strategy is also available long (bullish) or short (bearish).

This spread is essentially the combination of a long vertical spread and two short vertical spreads.

How Christmas Trees Work

The Christmas tree name comes from the strategy's very loose resemblance of a tree when viewed on an options chain display. The connection is tenuous, at best.

Christmas trees are similar to butterfly spreads in that they use multiple vertical spreads to box in a desired potential return. The difference is that one of the strike prices is skipped, which introduces a directional bias. For instance, if a condor spread involved the 50-55-60-65 strikes, the corresponding Christmas tree would involve just the 50-55-65 strikes (skipping the 60 strike).

The regular, or long Christmas tree with calls (sometimes referred to simply as a "call tree"), involves buying one call option with an at-the-money strike, skipping the next strike, and then selling three options with the following strike. Finally, buy two more calls with the next higher strike. The 1-3-2 structure supposedly appears as a tree.

The strategy profits from a small increase in price of the underlying asset and maxes when the underlying closes at the middle option strike price at options expiration.

Time decay is on the holder's side as the holder wants all options except the lowest to expire worthless.

Examples

Long Christmas Tree With Calls

For example, with the underlying asset at $50.00:

Long Christmas Tree with Puts

With this strategy, the holder is neutral to bearish. Sometimes referred to simply as a "put tree."

Maximum profit is at an underlying asset price of 48.00 at expiration.

Maximum loss is the premium paid to initiate the strategy.

Short Christmas Tree with Calls

Short strategies should result in a net credit to the account when initiated. This strategy profits when the underlying asset moves by a minimum direction in either direction but it is capped. The bias is bearish because it does not take much of a move lower in the underlying to make the strategy profitable. However, a larger move higher may also result in profit

The maximum profit is the net credit received.

Short Christmas Tree with Puts

This strategy results in a net credit to the account and profits when the underlying moves by a minimum in either direction. Profits come quicker with a smaller upside move although a larger downside move would also be profitable. therefore, this strategy leans bulls.

The maximum profit is the net credit received.