What's an Alligator Spread?

12/24/2015 8:00 am EST

Focus: OPTIONS

For the benefit of traders new to the realm of options, the staff at Investopedia.com outlines how alligator spreads often occur when a unique and complex combination of put and call options results in commissions high enough to negate any profits the position should have paid.

An alligator spread is a financial position that generates too many commissions to be profitable.

The term illustrates how the position eats an investor’s potential earnings, even when the market moves in the investor’s favor.

Alligator spreads don’t stem from market effects. They often occur when a unique and complex combination of put and call options results in commissions high enough to negate any profits the position should have paid. For example, an alligator spread is in effect when a position creates $500 in profits, but commissions equal or exceed that figure.

Brokers can arrange options to intentionally create an alligator spread. However, they’re usually random. To avoid them, investors should review their broker’s commission schedule, especially for puts and calls. Investors should also monitor their options sequences and be aware of possible consequences.

By the staff at Investopedia.com

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