Diagonal Spreads

Mix and match across strike and time

A calendar uses the same strike on both legs. A vertical uses the same expiration on both legs. A diagonal does neither — different strikes AND different expirations. That makes it the most flexible two-leg structure in the options toolbox, and also the trickiest to think about.

The most common construction is a bullish call diagonal. You buy a back-month call at one strike. You sell a front-month call at a higher strike. The short call you sell helps finance the back-month long call you own. If price drifts up modestly into the front-month expiration, the short call expires worthless and you keep its credit, lowering the cost basis of the back-month long call. You can then sell another front-month call against it next cycle. The structure is sometimes called a poor man's covered call because the long back-month call acts as a stock substitute.

Bearish diagonals work the same way with puts. Long back-month put at one strike, short front-month put at a lower strike. The bet is a slow drift down with time decay financing the trade.

The risk to know: if price runs hard through the short strike before expiration, the short option goes deep in the money and the diagonal can lose value faster than expected. Defined-risk in the strict sense requires careful strike selection — the trade is mostly defined-risk, but the geometry depends on the relationship between the two strikes. Brokerage platforms classify diagonals as defined-risk when the long is the same option type (call/put) and further out in time.

Recap: diagonal = different strike AND different expiration. Hybrid of calendar and vertical. Used to build long directional exposure cheaply by selling shorter premium against the longer position.