Ratio Spread
A ratio spread was an options strategy where a trader bought one option and sold a greater number of options at a different strike on the same underlying and expiry, creating a position with asymmetric exposure and either a net credit or debit depending on the exact strikes and quantities chosen.
The most common ratio spread configurations were the 1x2 and 1x3 structures. In a call ratio spread, a trader bought one call at a lower strike and sold two calls at a higher strike. In a put ratio spread, a trader bought one put at a higher strike and sold two puts at a lower strike. The extra short option generated premium that reduced or eliminated the cost of the long leg, sometimes even producing a net upfront credit — but it also introduced the risk of unlimited or large losses if the underlying moved sharply beyond the short strikes.
In the Indian F&O market, ratio spreads appeared frequently around event-driven scenarios on Nifty 50 and Bank Nifty. Before a scheduled event such as a Federal Reserve meeting, a domestic inflation print, or a state election result, implied volatility across strikes would rise. A trader who anticipated moderate directional movement but not an explosive move might deploy a call ratio spread: buy the ATM call and sell two OTM calls at a strike they believed would not be breached. If the index rose moderately and stayed below the short strikes, the spread profited significantly. If the index blasted through the short strikes, losses grew unbounded.
The uncapped risk beyond the short strike was the defining hazard of a naked ratio. Many experienced traders chose to cap the risk by adding a further OTM long option, converting the structure into a butterfly or broken wing butterfly. Without this hedge, SEBI's peak margin requirements demanded that adequate margin was maintained for the net short exposure, making ratio spreads capital-intensive beyond the initial credit collected.
Put ratio spreads were popular as a way to structure a bearish view with partial financing. Buying an ATM put and selling two OTM puts collected premium from the two short legs, reducing or eliminating outlay — but exposed the trader to substantial losses if the underlying fell sharply below the lower short put strike. In a sudden market crash, this structure could produce losses many times the initial premium collected, which made position sizing and exit discipline critical.
Ratio spreads interacted strongly with the volatility skew. On Indian indices, OTM puts typically carried a higher IV than OTM calls — the classic put skew. A put ratio spread therefore collected richer premium from the two short OTM puts than a mathematically symmetric call ratio spread would collect, making the put structure somewhat more attractive in premium terms but also more exposed to the left-tail crash risk that the skew was pricing.