Today I want to talk about a variation of the diagonal time spread, the double diagonal: Buy a farther dated (+/- 60 days until expiration) out of the money (OTM) put, strike A. Sell a near term (+/- 30 days) OTM put, strike B. Buy a far term OTM call, strike D and sell a near term OTM call, strike C.

Double Diagonal Spread

As you may note, the profit and loss lines are not straight. This is because the far term options are still open when the near term options expire. This makes a P&L graph much less exact as opposed to when all options in the strategy expire simultaneously.

So, we are combining two diagonal calendar spreads, one put and one call. What we are doing is capitalizing on the near term options decaying faster over time than the far term options. This is a particularly good strategy if the market is currently slow or range bound but you expect a move in the future.

When you put this trade on you want the stock to be between strikes B and C. Otherwise you have a bullish or bearish bias. What you want is for both the front month legs to expire worthless, thereby leaving you with a cheap strangle (long OTM call and OTM put).

After the expiration you can sell an additional call and put giving you two inexpensive vertical spreads. You can alternatively sell the at the money (ATM) straddle creating a nice Iron Butterfly. If the options are American style (ie, stock options) you will need to unwind the position just before the front month expiration if either the put or call looks to finish in the money (ITM).

So, you see that the Double Diagonal, while complex at first glance, is an excellent way of taking advantage of front month time decay and leaving room to take advantage of a future move.