What is a Nadex Bull Spread?

In order to properly explain what a Nadex Bull spread is, we will have to first take a look at what Nadex spreads are. Why do people trade these spreads, what are their advantages and how do they actually work?

According to Nadex, through its spreads feature, traders buy time for their market predictions to be right, while also purchasing protection against being wrong. Trading can indeed be an activity frustrating in ways one would never believe at first glance. Few things are more frustrating for a trader who makes a certain prediction and then places a trade, than to watch the market take an adverse swing which stops him/her out, only to then return and move in the initially predicted direction. This is a bit like winning the lottery and then finding out that while the numbers were indeed the right ones, you won't get the prize due to a technicality. This is what spreads are supposed to counter.

What are the Nadex spreads though? The best way to address this question is through an example. Let's consider the following spread: EUR/USD 1.0600-1.0850 (2PM). This is a classic spread example. The floor of the spread in this instance is 1.0600, while its ceiling is 1.0850. As long as it stays within these limits, the value of the spread will change, depending on the moves of the underlying market (in this instance, the value of the EUR/USD). It is very important to note that the trader doesn't bet on whether the value of the underlying asset stays within the above determined range. That's a different sort of trade. The spread simply means that the value of the asset is traded, as long as it stays within the said boundaries.

In the above illustrated case, the trade expires at 2 PM. There are three ways this spread can settle. It can end up between the floor and the ceiling values, in which case its worth will be determined by the value of the underlying market.

It can also end up below the floor, in which case its value is 1.0600. If it ends up above the ceiling, its value will be 1.0850.

What exactly is a bull spread? The bull spread is the kind of spread a trader looking to speculate on the bullish evolution of an underlying asset-value will trade. This too is best illustrated through an example.

You're looking at the price of corn futures, currently trading at the 583.1 mark. News from the National Weather Service predict droughts for the upcoming summer, and although that matters little for the current market, it will react nonetheless. You predict a price-increase due to the shortage that will be presumably be triggered by the drought, so you're looking to spread-trade the corn future at a target price of 609-612.

The contract you buy is a corn 570.0-610.0 (2:45PM). The contract will cost you $131, with the initial cost of the trade at the 570 level. This is your maximum exposure in this instance. You simply won't lose more than that. The break-even mark is at the 583.1 level. Anything above that - all the way to the 620 mark - is profit territory. If the bullish prediction is indeed correct, and the value of the corn future shoots past the 610 ceiling upon expiry, we're looking at a difference of 26.9 points, which is the maximum profit potential of this bullish spread. At $1 per tick, this translates to $269. Obviously, the profits can be smaller, if the corn future level ends up at say 600, or even 590. From the get-go though, the trader knows that he/she can lose a maximum of $131 on the spread, and can win a maximum of $269. To increase overall profit potential, several contracts can be purchased.

With the above in mind: what sort of problems do Nadex spreads solve? They don't force traders to pick tops and bottoms. They are lenient timing-wise, in the sense that they don't exact immediate punishment on those whose timing isn't perfect. They prevent getting stopped out, only to watch from the sidelines as the market turns around. They eliminate unlimited risk (at the cost of capping potential profits too, of course).

On top of all that, Nadex spreads open up new opportunities for traders. They do indeed let traders purchase protection against being wrong in their predictions. They also allow them to buy time for the market to prove them right. Bullish and bearish bias can be traded with spreads in an equally easy manner.

The most controversial thing about Nadex spreads is the limited profit potential of course. In theory, the values of stocks like Google and Apple can go up indefinitely, in which case it makes sense to hold on to them. Spreads represent a more risk-averse approach to trading though.

Signe J. Petersen is an experienced trader of stocks, currencies, commodities and many more. In the wake of rising popularity of binary options trading.