Most U.S. home loans end up in the nearly $9 trillion market for residential mortgage bonds with government backing, a critical corner of housing finance that boomed in the wake of the subprime-mortgage crisis.
The “agency” mortgage-bond market resembles the roughly $25 trillion Treasury securities market in that it provides some of the lowest borrowing costs available, and in that defaults are considered unlikely because the bonds come with U.S. government backing.
Fitch Ratings on Tuesday followed through with a May threat to cut the U.S. debt rating, pointing to “fiscal deterioration” expected over the next three years as well as the government’s large and growing debt burden and the “erosion” of governance, including through “repeated debt limit standoffs and last-minute resolutions.”
A day later it also lowered the top AAA debt ratings of housing giants Freddie Mac
FMCC,
-2.16%
and Fannie Mae
FNMA,
-3.60%
by a notch to AA+, saying, “firms continue to benefit from meaningful financial support from the U.S. government,” but also that the move wasn’t driven by a deterioration in credit, capital or liquidity at the firms.
Stocks fell Wednesday, with the S&P 500
SPX
booking its sharpest daily percentage decline since April, while the 10-year Treasury yield
BX:TMUBMUSD10Y
rose to nearly 4.1%, as investors focused on the Treasury’s big $1 trillion borrowing plan for the third quarter.
Here’s what to know about the biggest part of the U.S. housing finance market now that Fitch has become the first major credit-rating firm to lower the U.S.’s AAA credit rating to AA+ since S&P Global cut its rating in 2011.
Refi wave is a big buffer
The good news is that most U.S. homeowners already refinanced during the pandemic as the 30-year fixed mortgage rate fell to a 2.68% low in December 2020 from 4.87% in November 2018, according to data from the Urban Institute.
That provides a cushion for homeowners sitting tight with ultralow mortgage rates, sparing them the brunt of the Fed’s rate-hiking campaign.
It also should limit any reverberations from Fitch’s decision to no longer apply its top ratings to U.S. debt. The chart below drives the point home, showing that almost no mortgages are ripe for refinancing with rates hovering around 7%.
Mortgage-backed securities a ‘haven play’
Agency mortgage bonds continue to be viewed in financial markets as a safe-haven play. Like the rally in the Treasury market in 2011 following S&P Global’s surprise downgrade of U.S. credit, Fitch’s rating move could be a shot in the arm for agency mortgages.
“I would not expect this downgrade by itself to have a meaningful impact on the spreads attaching to agency [mortgage-backed securities],” said Yesha Yadav, a professor of law at Vanderbilt University, adding that the sector staged a powerful rally following the S&P Global downgrade roughly a decade ago.
Spreads are the premium investors are paid on bonds above the risk-free Treasury rate, while also serving as a gauge of risk sentiment.
“Of course, there may be broader concerns surrounding the housing market and possible defaults arising out of higher rates,” Yadav said.
She also flagged a “larger and deeper worry” signaled by Fitch in its downgrade: How much can investors continue to trust the default-free reputation of U.S. Treasury securities with Congress continuing to use U.S. credit ratings as a “bargaining chip in negotiations”?
U.S. debt load in focus
Agency mortgage bonds are pools of home loans that are underwritten to stricter credit standards than prevailed in the run-up to the 2007-2008 global financial crisis. U.S. housing giants Freddie Mac and Fannie Mae don’t make home loans, but they do buy ones that fit their tighter lending criteria and issue pools of bonds with the implicit backing of the U.S. government.
Freddie and Fannie didn’t immediately respond to a request for comment. Fitch didn’t respond to a request for comment for this article.
Read: What Fitch’s U.S. credit downgrade means for investors
While financial markets are largely expected to shake off the U.S. losing its top AAA debt rating for a second time in roughly a decade, it could usher in a period of greater “fiscal austerity,” with the lowered ratings likely to become “a political lighting rod,” according to Oxford Economics.
Also, while the Federal Reserve may have only a few more rate hikes in its arsenal before it calls it quits on its inflation fight, the mortgage industry is tethered to fluctuations in longer-dated Treasury yields.
Scott Buchta, head of fixed-income strategy at Brean Capital, told MarketWatch the Fitch downgrade of the U.S. looks less concerning than the potential for volatility in the mortgage market from higher Treasury yields on the back of heavy new supply.
The Treasury earlier this week said it expects to borrow about $1 trillion in the third quarter, an amount that Vivien Lou Chen writes is the largest ever for that time frame and a potential source of pain for investors.
“A bigger concern for the mortgage market is the amount of debt that’s expected to be issued,” Buchta said.
Read: New Jersey house prices rise at fastest rate in the nation — but other states saw prices fall by up to 8%
The term “gross spread” refers to an important element of the initial public offering (IPO) process: Gross spread is the money underwriters earn for their role in taking a company public.
When a company IPOs, or “goes public,” it releases its shares onto a public stock exchange, an undertaking that demands a tremendous amount of work behind the scenes. That work involves bankers, analysts, underwriters, and numerous others. All of that work must be compensated, which is where the gross spread — also called the underwriting spread — comes into play.
How Gross Spread Works
The gross spread refers to the cut of the money that is paid to the underwriters for their role in taking a company public. In effect, it’s sort of like a commission paid to the IPO underwriting team. But the underwriting spread isn’t a flat fee, but a spread in the sense that it represents a share price differential.
Underwriters
Underwriters are common players in many facets of the financial industry. It’s common to find underwriters working on mortgages, as well as insurance policies.
When it comes to IPOs, underwriters or underwriting firms work with a private company to take them public, acting as risk-assessors, effectively, in exchange for the underwriters spread. Their job is to evaluate risk and charge a price for doing so.
Recommended: What Is the IPO Process?
The Role of Underwriters in the IPO Process
These IPO underwriters generally work for an investment bank and shepherd the company through the IPO process, ensuring that the company covers all of its regulatory bases.
The underwriters also reach out to a swath of investors to gauge interest in a company’s forthcoming IPO, and use the feedback they receive to set an IPO price — this is a key part of the process of determining the valuation of an IPO.
In order to generate compensation for all this work, the underwriters typically buy an entire IPO issue and resell the shares, keeping the profits for themselves. So, the underwriters set the IPO price, buy the shares, and — assuming the shares increase in value once they become publicly available — the underwriters generate a profit from reselling them, the same way you would selling the shares of an ordinary stock that had risen in value.
For companies that are going public, the benefit is that they’re essentially guaranteed to raise money from the IPO by selling the shares to the underwriters. The underwriters then sell the shares to buyers they have lined up at a higher price in order to turn a profit. That difference in price (and profit) is the gross spread.
For the mathematically minded, the gross spread — basically the IPO underwriting fee — would be equal to the sale price of the shares sold by the underwriter, minus the price of the shares it paid for the shares. 💡Quick Tip: Keen to invest in an initial public offering, or IPO? Be sure to check with your brokerage about what’s required. Typically IPO stock is available only to eligible investors.
Gross Spread & Underwriting Costs
The gross spread, for most IPOs, can range between 2% and 8% of the IPO’s offering price — it depends on the specifics of the IPO. There can be many variables that ultimately dictate what the gross spread ends up being.
The gross spread also comprises a few different components, which are divided up by members of the underwriter group or firm: The management fee, underwriting fee, and concession. The underwriters typically split the gross spread, overall, as such: 20% for the management fee, 20% for the underwriting fee, and 60% for the concession. More on each below:
Management fee
The management fee, or manager’s fee, is the amount paid to the leader or manager of the investment bank providing underwriting services. This fee essentially amounts to a commission for managing and facilitating the entire process. It’s also sometimes called a “structuring fee.”
Underwriting fee
The IPO underwriting fee is similar to the management fee in that it is collected by and paid to the underwriters for performing their services. Again, this is more or less a commission that is taken as a percentage of the overall gross spread and divided up by the underwriting teams.
Concession
The concession, or selling concession, is generally the compensation underwriters get for managing the IPO process for a company. So, in this sense, the concession is a part of the gross spread during the IPO process and is, effectively, the profits earned by selling shares when the process is complete. It’s divided up between the underwriters proportionately depending on the number of shares the underwriter sells. 💡Quick Tip: If you’re opening a brokerage account for the first time, consider starting with an amount of money you’re prepared to lose. Investing always includes the risk of loss, and until you’ve gained some experience, it’s probably wise to start small.
Examples of Gross Spread
Here’s an example of how gross spread may look in the real world:
Company X is planning to IPO, and its shares are valued at $30 each. The underwriters working with Company X on its IPO purchase the full slate of shares prior to the IPO, and then go off and sell the shares at $32 each to investors and the general public.
In this case, the gross spread would be equal to the difference between what the underwriters paid Company X for the shares, and what they then sold the shares for to the public — $32 – $30 = $2.
Or, to express it as a ratio, the gross spread is 6.7%. More on the ratio calculation below.
Gross Spread Ratio
As mentioned, the gross spread can be expressed or calculated as a ratio. Using the figures above, we’d be looking to figure out what percentage $2 is (the gross spread) of $30 (the share price sold to the underwriters).
So, to calculate the ratio, you’d simply divide the gross spread by the share price — $2 divided by $30. The calculation would look like this:
$2 ÷ $30 = 0.0666
The figure we get is approximately 6.7%. Also note that the higher the ratio, the more money the underwriters (or investment bank serving as the underwriter) receives at the end of the process.
IPO Investing With SoFi
Though the gross spread, or underwriters spread, is not a well-known aspect of the IPO process, it’s relatively straightforward. Underwriters, who shepherd a company through the IPO process, ultimately buy the initial shares from the company at one price, and sell them to the public at the IPO at a higher price. The spread between the two is considered the gross spread, or the compensation the underwriting team earns for all their work.
Whether you’re curious about exploring IPOs, or interested in traditional stocks and exchange-traded funds (ETFs), you can get started by opening an account on the SoFi Invest® brokerage platform. On SoFi Invest, eligible SoFi members have the opportunity to trade IPO shares, and there are no account minimums for those with an Active Investing account. As with any investment, it’s wise to consider your overall portfolio goals in order to assess whether IPO investing is right for you, given the risks of volatility and loss.
Invest with as little as $5 with a SoFi Active Investing account.
FAQ
What is meant by the underwriting spread?
The underwriting spread is another term for the gross spread. Underwriters pay issuers, or an issuing company, for a company’s shares prior to the IPO. The underwriting firm then turns around and sells shares to investors. The difference (expressed as a dollar amount) that the underwriter pays the issuer and that it receives back from selling the shares during an IPO is the underwriting spread.
What are gross proceeds in an IPO?
Gross proceeds, in relation to an IPO, refers to the total aggregate amount of money raised during the public offering. This is all of the money raised by investors during the IPO.
What is a typical underwriting spread?
As underwriting spreads are usually expressed as dollar amounts, the typical underwriting spread can vary depending on several variables in the IPO process — including share price, share volume, etc. But in general, it can amount to between 3.5% and 7% of gross proceeds during an IPO.
Photo credit: iStock/bankrx
SoFi Invest® The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results. Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below. 1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
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3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Investing in an Initial Public Offering (IPO) involves substantial risk, including the risk of loss. Further, there are a variety of risk factors to consider when investing in an IPO, including but not limited to, unproven management, significant debt, and lack of operating history. For a comprehensive discussion of these risks please refer to SoFi Securities’ IPO Risk Disclosure Statement. IPOs offered through SoFi Securities are not a recommendation and investors should carefully read the offering prospectus to determine whether an offering is consistent with their investment objectives, risk tolerance, and financial situation.
New offerings generally have high demand and there are a limited number of shares available for distribution to participants. Many customers may not be allocated shares and share allocations may be significantly smaller than the shares requested in the customer’s initial offer (Indication of Interest). For SoFi’s allocation procedures please refer to IPO Allocation Procedures. Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
For the third consecutive week, mortgage rates pushed past 3% – with the average mortgage rate for a 30-year fixed loan up four basis points last week to 3.09%, according to Freddie Mac’s Primary Mortgage Market Survey.
Rising mortgage rates typically signify a recovering economy, and despite applications for mortgages dropping week-over-week, Freddie Mac’s chief economist Sam Khater expects a 3% rate to sustain market interest for many potential buyers.
A number of economists say rising rates may just be what the industry needs to cool the insane housing demand the market has been struggling to maintain for months. Increased inventory was the initial hope. However, due to consistent materials supply shortages and lumber prices that are up about 200% since April 2020, builders’ confidence index dropped in March. Single-family housing starts declined last month.
“The elevated price of lumber is adding approximately $24,000 to the price of a new home,” said NAHB Chairman Chuck Fowke. “Though builders continue to see strong buyer traffic, recent increases for material costs and delivery times, particularly for softwood lumber, have depressed builder sentiment this month. Policymakers must address building material supply chain issues to help the economy sustain solid growth in 2021.”
Now, economists are keeping a watchful eye on the speed in which interest rates have risen, said Doug Duncan, Fannie Mae’s senior vice president and chief economist.
“Underlying Treasury rates have risen, though lenders have absorbed some of the rise by shrinking spreads, as confirmed by our recent Mortgage Lender Sentiment Survey results,” said Duncan. “While the rate rise will curtail refinances to some degree, 2021 is poised to be a good year overall for housing activity and housing finance, as the economy continues to recover and COVID-19 restrictions ease.”
Duncan said Fannie Mae is watching for risks around monetary and fiscal policy on interest rates moving forward, though none are an immediate threat as the Federal Reserve has not changed its FOMC statement for several months.
Nevertheless, mortgage rates remain near historic lows (they are still 0.8 percentage points below the 2019 average), but if the price of housing can’t cool in time, many first-time homebuyers may miss the chance to take out a record low rate. Despite this risk, Fannie Mae’s baseline view is that the recent rapid rise will not continue but that rates will drift only modestly higher over the remainder of this year.
“Essentially, we believe the Fed will keep policy accommodative for longer, not tightening until inflation clearly exceeds its 2.0-percent target for a substantial period,” Fannie Mae said. “This view is consistent with current market measures, such as Fed Funds futures, not anticipating any rate hikes until 2023 and, even then, at a slow pace.”
Payment for order flow (PFOF) refers to the practice of retail brokerages routing customer orders to market makers, usually for a small fee that’s less than a penny. Market makers, who are required to deliver the “best execution,” carry out the retail orders, profiting off small differences between what shares were bought and sold for.
Retail brokerages, in turn, use the rebates they collect to offer customers lower — or often zero — trading fees.
How Does Payment for Order Flow Work?
Here’s a step-by-step guide to how payment for order flow generally works:
1. A retail investor puts in a buy or sell order through their brokerage account.
2. The brokerage firm routes the order to a market maker.
3. The broker collects a small fee or rebate – the “payment” for sending the “order flow” or PFOF.
4. The market maker is required to find the “best execution,” which could mean the best price, swiftest trade, or the trade most likely to get the order done.
The rebates allow companies offering brokerage accounts to subsidize rock-bottom or zero-commission trading for customers. It also frees them to outsource the task of executing millions of customer orders.
Usually the amount in rebates a brokerage receives is tied to the size of the trades. Smaller orders are less likely to have an impact on market prices, motivating market makers to pay more for them. The type of stocks traded can also affect how much they get paid for in rebates, since volatile stocks have wider spreads and market makers profit more from them.
Quick Tip: The best stock trading app? That’s a personal preference, of course. Generally speaking, though, a great app is one with an intuitive interface and powerful features to help make trades quickly and easily.
Why Is PFOF Controversial?
While widespread and legal, payment for order flow is controversial. Critics argue it poses a conflict of interest by incentivizing brokerages to boost their revenue rather than ensure good prices for customers. The requirement of best execution by the Securities and Exchange Commission (SEC) doesn’t necessarily mean “best price” since price, speed, and liquidity are among several factors considered when it comes to execution quality.
Defenders of PFOF say that mom-and-pop investors benefit from the practice through enhanced liquidity, the ability to get trades done. They also point to data that shows customers enjoy better prices than they would have on public stock exchanges. But perhaps the biggest gain for retail investors is the commission-free trading that is now a mainstay in today’s equity markets.
What Are Market Makers?
Market makers — also known as electronic trading firms — are regulated firms that buy and sell shares all day, collecting profits from bid-ask spreads. The market maker profits can execute trades from their own inventory or in the market. Offering quotes and bidding on both sides of the market helps keep it liquid.
Market makers that execute retail orders are also called wholesalers. The money that market makers collect from PFOF is usually fractions of a cent on each share, but these are reliable profits that can turn into hundreds of millions in revenue a year. In recent years, a number of firms have exited or sold their wholesaling businesses, leaving just a handful of electronic trading firms that handle PFOF.
In addition to profits from stock spreads, the orders from brokerage firms give market makers valuable market data on retail trading flows. When it comes to using institutional or retail investors, market makers also prefer trading with the latter because larger market players like hedge funds can trade many shares at once. This can cause big shifts in prices, hitting market makers with losses.
PFOF in the Options Market
Payment for order flow is more prevalent in options trading because of the many different types of contracts. Options give purchasers the right, but not the obligation, to buy or sell an underlying asset. Every stock option has a strike price, the price at which the investor can exercise the contract, and an expiration date — the day on which the contract expires.
💡 New to options? Check out our options guide for beginners.
Market makers play a key role in providing liquidity for the thousands of contracts with varying strike prices and expiration dates.
The options market also tends to be more lucrative for the brokerage firm and market maker. That’s because options contracts trading is more illiquid, resulting in chunkier spreads for the market maker.
Quick Tip: Options can be a cost-efficient way to place certain trades, because you typically purchase options contracts, not the underlying security. That said, options trading can be risky, and best done by those who are not entirely new to investing.
Criticism of Payment for Order Flow
Payment for order flow was pioneered in the 1980s by Bernie Madoff, who later pleaded guilty to running the largest Ponzi scheme in U.S. history.
Critics argue retail investors get a poor deal from PFOF. Since market makers and brokerages are only required to provide “best execution” and not necessarily the “best possible price,” firms can make trades that are profitable for themselves but not necessarily in the best interest of individual investors.
In 2016, the U.S. Department of Justice (DOJ) subpoenaed market making firms for information related to the execution of retail stock trades. The DOJ was looking into whether the varying speeds at which different data feeds deliver market prices made it look like retail clients were getting favorable prices, while market makers knew they actually weren’t from faster data feeds. A trading firm settled with regulators in 2017.
Defenders of Payment For Order Flow
Proponents of payment for order flow argue that both sides — the retail investors and the market makers — win from the arrangement. Here are the ways retail customers can benefit from PFOF, according to its defenders:
1. No Commissions: In recent years, the price of trading has collapsed and is now zero at the biggest online brokerage firms. While competition has been a big part of that shift, PFOF has helped bring about low trading transactions for mom-and-pop investors. For context, online trading commissions were $40 or so a trade in the 1990s.
2. Liquidity: Particularly in the options market, where there can be thousands of contracts with different strike prices and expiration dates, market makers help provide trading liquidity, ensuring that retail customer orders get executed in a timely manner.
3. Price Improvement: Brokerages can provide “price improvement,” when customers get a better price than they would on a public stock exchange.
4. Transparency: SEC Rules 605 and 606 require brokers to disclose statistics on execution quality for customer orders and general overview of routing practices. Customers are also allowed to request information on which venues their orders were sent to. Starting in 2020, brokers also had to give figures on net payments received each month from market makers.
The Takeaway
Payment for order flow (PFOF) refers to the practice of retail brokerages routing customer orders to market makers, usually for a small fee. Payment for order flow is controversial, but it’s become a key part of financial markets when it comes to stock and options trading today.
Industry observers have said that for retail investors weighing the trade-off between low trading costs versus good prices, it may come down to the size of their trades. For smaller trades, the benefits of saving money on commissions may surpass any gains from price improvement. For investors trading hundreds or thousands of shares at a time, getting better prices may be a bigger priority.
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Inside: Are you looking for a way to borrow money? Cash App has you covered. This guide will show you how to unlock the borrowing feature on Cash App and get started borrowing money.
Borrowing money can be a stressful experience. You may feel like you’re in over your head and that there’s no way out.
If you’re in need of some extra cash, you may be wondering if Cash App offers a way to borrow money.
Fortunately, at this time Cash App does offer a borrowing or lending feature for selected users.
This cash advance may help you in your cash crunch, but it does come with a fee.
But what if I told you that there is a way to borrow money without all of the stress?
This post may contain affiliate links, which helps us to continue providing relevant content and we receive a small commission at no cost to you. As an Amazon Associate, I earn from qualifying purchases. Please read the full disclosure here.
What is Cash App Borrow?
Cash App Borrow, brought to you by Block (formerly Square, Inc.), is a handy short-term loan feature within the Cash App.
Let’s say you’re in a pinch and need a quick $50; Cash App Borrow can let you borrow from $20 up to $200.
You’ve got four weeks to repay with a minimal 5% fee. Be aware that if you don’t pay back on time, there’s a 1.25% late fee each week.
However, this lifesaver isn’t for everyone and the feature varies based on your region, credit history, and usage of the app. Remember, it’s designed for small emergencies, not big expenditures.
This may help your cash flow budget plan.
How to Unlock Borrow on Cash App
The Cash App’s feature, “Borrow,” offers a swift and convenient way for users to access funds without resorting to traditional loans.
This service could be the solution you need for immediate access to funds, helping you bridge any financial gaps with ease. Whether you’re using borrowing for mitigating an unexpected expense or getting quick liquidity, learning how to unlock this feature can be pivotal to leveraging these benefits at your fingertips.
This feature opens the door to short-term borrowing, eliminating the usually lengthy and complex process often associated with financial institutions.
In this section, we will walk you through the steps to unlock the “Borrow” feature within the Cash App, elaborating on its benefits and offering a clear picture of its operations.
Step #1: Sign Up or Open Cash App & Log In
First, you need to be a Cash App user.
Start by downloading the app. Once you’ve installed it, open the app, and hit the ‘Sign Up’ button.
Input your email and phone number, then follow the prompts you’ll receive to verify your identity.
Step #2: Start the Borrow Loan Process
Tap on the “Banking” or “Money” icon, it looks like a little bank building.
Scroll and look for “Borrow”. It should be right there! If you qualify, tap “Borrow” then “Unlock”.
Now, choose the amount you’d like to borrow and select a convenient repayment plan.
Step #3: Decide How To Repay Your Cash App Loan
Before you take on debt, you need to choose a repayment method for your Cash App loan. This is one step many people forget!
Pick one from three options:
Paying ‘As you get cash’ spreads the cost, but remember, any incoming funds will chip at your loan first.
‘Four weekly payments’ allows for consistent budgeting, but never miss a payment, it could hit your credit score!
‘All at once’ option keeps it simple but needs a big chunk of cash.
You can always repay early without penalties – a nice flexibility!
Choose what suits your financial strategy best.
Step #4: Accept Loan Terms & Borrow Instantly
The final step is to review the loan details carefully.
You need to know that Cash App Borrow is still a type of loan and key details needs to be reviewed.
Once you agree to their terms, tap “Borrow Instantly”.
Note: Approval times can vary, but typically it’s super speedy. And remember, the borrow feature is best for emergencies, not long-term needs.
How quickly can one access a loan from Cash App?
Cash App Borrow allows you to get a quick loan within seconds from the Cash App’s main screen. Choose your loan amount, up to $200, select a repayment option, and voila! After reviewing the terms, hit “Borrow Instantly.”
Your money pops up in your account right away.
However, remember that the feature is only available to a limited set of users currently. If you can’t find it, you might need to wait until it’s rolled out universally.
Learn where can I load my cash app card.
How does the repayment process work for Cash App loans?
Settle your loan directly via the app, either automatically or manually.
Here are your options:
you can repay as you receive cash
make weekly payments,
or clear the entire amount at once.
Remember, early full payment has no penalty. Also, non-payment can lead to suspension from the Cash App.
Just, make sure you don’t default!
Why don’t I have Cash App Borrow Option?
If you’re scratching your head wondering why the Cash App ‘Borrow’ is not showing up, don’t stress. There might be a few reasons behind its vanishing act.
Beta Status: Have patience! The borrow feature may not always be available as it’s currently in beta testing.
Location Matters: Sometimes, it’s all about where you live. Cash App Borrow isn’t accessible in all US states.
Credit Stance: Your credit history could be denying you access. Poor credit or not meeting other Cash App requirements can keep the option hidden.
Usage Pattern: How often do you use Cash App? Regular users with frequent deposits are more likely to have the borrow feature.
Remember, unlocking Cash App’s Borrow isn’t fast or guaranteed, but being a frequent, responsible user might just tip the odds.
How to get the borrow feature on cash app?
When the feature is available, you’ll be able to request a loan through the app. For most users, it may be based on the state you reside as to whether the borrowing feature is available.
To get the borrow feature on Cash App, you first need to unlock it on your account. Here’s how to do it:
Begin by opening Cash App and logging in to your account.
Navigate to the “Money” tab located at the bottom left of your screen.
Click on the button labeled “Unlock” which will lead you to the borrow feature.
Tap on “Continue” to unlock the feature.
In the event that you can’t find this option, it’s possible that this feature is not accessible for your account currently.
Eligibility Criteria for Borrow on Cash App
Cash App Borrow is a feature that allows eligible users to borrow money directly from the app itself.
However, to be eligible, you must meet certain criteria set by Cash App, which is not widely known.
So, here are the general guidelines most lenders use to determine loan eligibility:
Are you over 18 years old?
Are you a United States resident?
Do you have a valid bank account and a debit card?
Are you a regular and frequent user of the app to possibly boost your chances of accessing the “Borrow” feature?
What is your credit score and past credit history?
Do you utilize the direct deposit feature with Cash App?
What state do you reside in?
Have you repaid your previous Cash App loans on time?
Please note that the exact requirements might vary, with some users reporting that a credit check is not always required and others suggesting that regular, substantial deposits might be necessary.
Cash App Borrow States
However, the eligibility to borrow also depends on the state you live in, as the Cash App Borrow feature is not available in all states.
So, you got to be living in certain states.
Consequently, the Cash App Borrow Loan Agreement does not specify in which states you must reside to be eligible for a loan.
However, these states have additional state notices, so the assumption is Cash App Borrow is likely in these states (and subject to change):
California
Florida
Iowa
Kansas
Massachusetts
Missouri
New Jersey
New York
Ohio
Rhode Island
South Dakota
Utah
Vermont
Washington
Wisconsin
This doesn’t guarantee instant access, though.
Cash App will send an invite for you to use the feature. So, keep an eye on your Cash App interface.
How often can you borrow from Cash app?
The frequency of borrowing from Cash App isn’t explicitly stated due to the novelty and selective availability of the feature.
However, it is essential to acknowledge that Cash App offers short-term loans, which must be paid back in full within four weeks. Therefore, the allowance for another loan likely depends on whether the borrower has successfully repaid their previous loan within the stipulated time frame.
Therefore, it is advisable for borrowers to prioritize prompt repayment and maintain responsible borrowing habits to avoid falling into a debt cycle.
While this might suggest that the borrowing cycle could potentially be monthly, specific details about the frequency of borrowing have not been openly advertised by Cash App.
Is it safe to use Cash App for borrowing money?
Cash App is a secure mobile app that lets you borrow a quick buck when you’re facing financial hurdles. It works like a digital buddy who lends you money and expects you to pay it back in due time.
The true beauty of Cash App is how it values your security. It works with approved lenders and employs advanced safety measures to protect your data as seriously as a hawk guarding its nest.
It allows for convenient money transfers.
Do bear in mind though, your credit history plays a role in securing this loan.
Remember, always research and consider all your options before entering a financial contract (even with your digital buddy!).
How to increase cash app borrow limit?
Increasing your Cash App borrowing limit involves actively using the loan features within the app and repaying smaller loans promptly.
Here’s how you can achieve this:
If your current borrowing limit is small (for example, $20), borrow that amount and make sure to repay it immediately.
Note from user experiences shared on platforms like Reddit, your limit may not increase if you repay your loan early. To potentially raise your limit, let your loan automatically repay when it is due. However, this might not be the same for everyone.
After you have repaid the loan, when you borrow again, you should notice a slight increase in your borrowing limit for the next loan.
Keep in mind, not everyone will be eligible for increasing their Cash App borrowing limit.
Eligibility and limit increases strongly depend on individual financial situations, borrowing history, and timely repayment abilities.
Nonetheless, by adhering to the principles of responsible borrowing, you can potentially increase your borrowing limit on Cash App.
What Do to If Cash App Borrow Ended?
Despite offering an attractive short-term loan program, Cash App Borrow has been relatively silent about its operations, leading to confusion among users.
This may have happened because of failure to repay a previous loan.
So, before you jump into finding alternatives, remember to carefully consider the costs and risks involved in borrowing money.
Despite its usefulness, if Cash App Borrow is inaccessible to you or has ended, here’s what you can do:
Seek other cash advance apps: Numerous apps offer similar services, and might have lower fees.
Consider a credit card cash advance: While it bears a fee, of 3% it’s lesser than Cash App’s 5% fee.
Evaluate online lending options: Comparing cost and repayment terms can help you find a better deal.
Borrow from an emergency fund or family member: These are often the cheapest sources of short-term support.
With any financial decision, proper research and a thorough understanding of the terms can help you make an informed choice and avoid further financial distress.
How does Cash App compare to other borrowing apps?
Cash App is a versatile player in the lending field, offering a blend of banking capabilities and micro-loans under one roof. It stands as a convenient alternative to traditional borrowing apps with its unique features and loan offer.
Top Cash App features include:
Peer-to-peer payments
Investments in stocks and Bitcoin
Bill payment through direct deposits
Short-term loan feature, “Borrow”
If the Cash App Borrow feature isn’t accessible to you or doesn’t suit your needs, there are numerous alternatives to consider.
Loan Amount
Fees
Repayment
Cash App
$20-$200
5% of the loan
4 weeks
Credit Cards
depends on credit approval
View current rates/terms
According to terms
Upstart
$1000-50000
varies
Agreed upon terms
LightStream
up to $50000
view current rates/terms
Auto-pay is preferred
In conclusion, Cash App offers an all-in-one platform that changes the game for borrowing apps. It may not be perfect, but it’s a notable contender.
FAQ
On Cash App, you can borrow up to a max of $200.
However, the amounts typically start low, like $20 or $40, and your limit increases as you repay your loans.
So, let’s say you began with a $40 loan, repay it, and ta-da! Your next loan could be a higher amount.
But remember, you need to pay off one loan before jumping onto another.
Just in case you’re thinking of taking out a loan with Cash App Borrow, you should know a few things about the fees involved.
You’ll need to pay back this short-term loan within four weeks along with a flat 5% fee – kinda like the interest, ya know?
But be careful not to miss the deadline! If you’re late, they’ll start charging an additional 1.25% late fee each week until you square up.
For example, if you borrow $100, you’ll need to pay back $105 within a month. If you don’t, it’d be $106.31 in the following week.
Cash App Borrow Not Showing Up? Now You Know Why
In conclusion, the Cash App Borrow feature can serve as a lifeline in times of financial need, offering short-term loans ranging from $20 to $200.
That being said, it’s prudent to be mindful of the potential for debt to accumulate and to pay the loan before the grace period ends.
If you’re not eligible or need a larger loan, other cash advance apps might provide a suitable alternative.
However, the process of borrowing from Cash App is also simple, making it a convenient choice for many.
Exercise caution, fully understanding the commitment you’re entering into and prioritizing financial responsibility to avoid the slippery slope of debt.
Remember, the money borrowed via Cash App should be repaid on time to use borrow feature continuously.
Know someone else that needs this, too? Then, please share!!
In 2020, housing was an economic bright spot for a nation shuttered inside. Globally speaking, things look much different roughly a year later – jobs are returning by the millions, a series of viable vaccines are being deployed across America, stimulus checks have hit bank accounts and mortgage rates are ascending rapidly from nearly a year of historic lows.
In December, when rates were still at record lows and the vaccines had not been widely distributed, the Mortgage Bankers Association projected 30-yr mortgage rates at 3.2% in 2021, 3.6% in 2022 and 4.1% in 2023. Those forecasts have changed dramatically – as of March 19, the MBA revised those numbers to an average of 3.6% in 2021, 4.5% in 2022 and 5% in 2023. The last time rates reached heights of nearly 5% was in November of 2013, and before that, nearly a decade ago in 2011, according to Freddie Mac’s PMMS.
Joel Kan, the MBA’s associate vice president of economic and industry forecasting, pointed to various relief packages that gave households aggregate spending power and market sectors opening back up. Leisure, hospitality and travel in particular showed big gains.
Essentially, homeowners had money burning a hole in their pocket and now that they can spend it on industries that were previously hindered, the amount of money that is getting pumped back in to the economy could eventually push mortgage rates far above pre-pandemic levels.
“The expectation, and the realization, of stronger growth and a stronger job market puts upwards pressure on rates, fundamentally, through the rest of year,” Kan said. “The spending and stimulus bills needed to be funded somehow, and that is going to come from Treasury auctions which is going to push rates upwards.”
That said, Kan does expect some near-term volatility in the market regardless – rates may fall and then climb back up at the drop of a hat. But generally speaking, the MBA isn’t changing its forecast on rising mortgage rates for the coming years.
In the past two weeks, rates have fallen around 14 basis points. Logan Mohtashami, HousingWire’s lead analyst, explained the bond market closed at a very meaningful level last week (1.75%), and because there was no follow-through selling, short term bonds are getting bought. This essentially means the market is hovering, he said.
“Technically speaking, the U.S. economic data is so good that it would warrant a 10-year yield around 3% and a mortgage rate at 5%,” Mohtashami said. “Because COVID is still here and the rest of the world’s economies aren’t rebounding as well as us on bond yields, mortgage rates don’t have that escape velocity yet. And that’s the main reason I’m capping my 10-year yield peak forecast at 1.94%.”
For the month of March, mortgage spreads compressed further. The primary/secondary spread narrowed for the seventh consecutive month to 113 basis points, the smallest gap since February 2020. Spreads have compressed significantly over the past year, and while lenders may be willing to absorb these costs to maintain high volumes for a little while longer, Fannie Mae economists believe lenders are likely to increasingly pass a greater share of higher funding costs onto borrowers if the 10-year Treasury rate continues to move upward.
Alongside rising mortgage rates, economic groups are revising their expectations for the transition from the refi market to a purchase market.
According to Fannie Mae’s economic and strategic research group, the GSE expects refinance origination volumes in 2022 to total $1.1 trillion, a 48% decline from 2021 and a $40 billion downward revision from last month’s forecast. It also estimates that around 42% of all outstanding mortgages have at least a 50-basis point incentive to refinance at current rates, which is down from nearly 70% at the end of 2020.
That 10 basis point drop in rates last week gave an extra 2 million “highly qualified candidates” the opportunity to reenter the market, according to data analytics provider Black Knight. These candidates are defined as 30-year mortgage holders with a maximum 80% loan-to-value ratio and credit scores of 720 or higher, who could shave at least 0.75% off their current first lien rate by refinancing.
But a turnaround of that significance in just one week illustrates how volatile the refi market is.
“Despite rates still sitting at record lows, refinances are just that more sensitive to rate changes,” Kan said. “Rates aren’t a deal breaker for purchase transactions because its more about the price. And now we are hearing anecdotes from realtors and lenders that competitiveness is driving home price appreciation even higher. So short term, we are still looking at purchases struggling in this kind of demand.“
While industry experts advise borrowers to lock in the rate they have now, the window may stay open longer than some think.
The Federal Reserve has been unwavering in its stance on maintaining inflation at 2% before any form of new policy can be made. If inflation does rise above its target, it would put upward pressure on mortgage rates because investors who buy fixed assets use inflation as the mainstay of their calculation that determines the yield, or return, they are willing to accept.
“Most members of the committee did not see raising interest rates until 2024, but that isn’t a committee forecast, it isn’t something we vote on or act on as a group…it really is just our assessment,” said Fed Chairman Jerome Powell in a Thursday meeting. “Markets focus too much on what we call the economic predictions, and I would focus more on the outcomes that we’ve described.”
It’s no secret that homes just aren’t as affordable as they used to be.
An unwelcome combination of significantly higher mortgage rates coupled with ever-higher asking prices has put a major dent in affordability.
In May, the monthly mortgage payment on a median-priced home ($401,100) was over $2,000, up from around $1,000 back in 2020, according to the National Association of Realtors.
And that assumes a 20% down payment, something that just isn’t a reality for many home buyers these days.
The good news is there are lots of creative financing options out there, whether it’s from a state housing agency or even a national lender.
What Is Homebuyer Assistance?
In short, homebuyer assistance is a special program or series of programs offered by a local municipality, state, or private lender that reduces borrowing costs and promotes homeownership.
This can come via down payment assistance, closing cost assistance, reduced interest rates and mortgage insurance premiums, or a combination of these and other programs.
Collectively, it makes homeownership more attainable, especially for first-time home buyers and/or those with low-to-moderate income.
As noted, there are countless homebuyer assistance programs available, many of which are offered at the state or municipality level.
For example, the California Housing Finance Agency, or CalHFA for short, offers a series of homebuyer assistance programs.
The same goes for every other state in the nation. Programs are also offered for certain cities or underserved areas throughout the nation.
At the city level, one example is LA’s Home Ownership Program (HOP) loan, which provides a second mortgage for first-time home buyers up to $85,000, or 20% of the purchase price (whichever is less).
Beyond that, there are also homebuyer assistance programs offered by individual mortgage lenders, banks, and credit unions.
Private companies often have affordable housing goals and initiatives, which are sometimes geared at specific areas or priorities like increasing minority homeownership.
These offerings include both government options (FHA loans, USDA loans, VA loans) and conventional options (Fannie Mae and Freddie Mac).
Homebuyer Assistance Program Examples
The CalHFA has been around since 1975, with a stated goal of helping low- and moderate-income renters and home buyers via down payment and closing cost assistance.
It’s important to note that they aren’t a lender, but rather offer their products through private loan officers who have been trained and approved to originate them.
It may also be possible to work with an independent mortgage broker who is approved to work with a CalHFA-approved wholesale lender.
Anyway, to give you an idea of what they offer, let’s look at their CalHFA Conventional loan, which is a Fannie Mae HFA Preferred first mortgage.
This means the loan isn’t subject to costly loan-level price adjustments (LLPAs), and reduced mortgage insurance coverage is offered to those with limited incomes.
But wait, there’s more. This loan may be combined with the MyHome Assistance Program, which is a deferred-payment junior loan (second mortgage) that can be used to cover down payment and/or closing costs.
As you can see in the table above, which is just a sample, the monthly payment is deferred ($0) until the loan is refinanced, paid off, or the home sold.
But interest does accrue on the balance over time if you don’t pay it off.
There’s also the CalPLUS Conventional Loan Program, which combines a conventional 30-year fixed first mortgage with the CalHFA Zero Interest Program (ZIP) for closing costs.
That ZIP loan is both deferred and interest-free, meaning no payments or interest, as seen in the table.
Your closing costs can effectively be set aside until you refinance or pay off your loan, or sell your home.
You can actually combine all three programs if needed to get a more affordable first mortgage, a second mortgage for the down payment, and a third mortgage for the closing costs.
Aside from these standard offerings, the agency also launched the “Dream For All Shared Appreciation Loan” earlier this year.
As the name suggests, borrowers share future appreciation in lieu of a down payment.
Regarding the LA City homeownership program known as HOP, you get a 0% interest loan with a deferred payment.
And repayment is required if the home is sold, if there’s a title transfer, or the home is no longer owner-occupied.
You must be a first-time home buyer, income limits apply, and the property must be in an eligible area.
Tip: If you work with a housing agency, inquire about a mortgage credit certificate before you apply to potentially save money on taxes.
Homebuyer Assistance Via Private Banks and Mortgage Lenders
To give you an idea of a private offering, there is the recently launched U.S. Bank Access Home Loan.
It comes with up to $12,500 in down payment assistance and a lender credit up to $5,000.
Then there’s the Guild Mortgage 1% Down Payment Advantage, which combines a 2% non-repayable grant offered by the company and a 1% temporary buydown in year one.
Speaking of grants, some may be fully forgivable, while others might be required to be paid back when you refinance or sell.
Be sure to pay attention to details like that when researching potential down payment assistance or homebuyer assistance programs.
One such example is Movement Boost from Movement Mortgage, which is a zero down FHA loan that features a repayable second mortgage.
Despite having to be paid back, it eliminates the roadblock of needing cash at closing, and instead spreads it out slowly over a 10-year loan term.
Then there’s Rocket Mortgage ONE+, which offers a 2% grant from the Detroit-based lender and private mortgage insurance at no cost.
I could go on and on, but you should get the idea. There are lots of grants, credits, special purpose credit programs (SPCP), and other specials out there.
But it’s up to you to do some digging to find them. So when you’re shopping around for the lowest rate, also inquire about homebuyer assistance if you want/need it.
Who Qualifies for Homebuyer Assistance?
Typically need to be a first-time home buyer (but not always)
Area income limits often apply to those receiving assistance
May also need to purchase a property in a specific location/city
Property must be owner-occupied and usually only 1-unit is permitted
Still must qualify for a mortgage (e.g. min. FICO score and max DTI ratio)
While it might sound pretty good to buy a home with little or nothing down (and sans closing costs), not everyone will qualify.
Many of these programs are geared toward first-time home buyers, generally defined as someone who hasn’t had ownership interest in the past three years.
This means those who have never owned a home, or an individual who sold their former home three or more years ago and hasn’t owned since.
Depending on the program, you may be required to complete homebuyer education and counseling. While it might seem like a pain, you may actually learn something valuable along the way.
Beyond that, income limits often apply as well, typically based on the state agency’s limits or area median income (AMI) limits.
You can look up income limits via Fannie Mae’s website to see where they stand in your desired purchasing area.
Speaking of income, non-occupant co-borrowers or co-signers are typically not permitted.
There are also loan limits to worry about, which are usually based on the conforming loan limit, but sometimes even lower.
And in most cases, the property is going to need to be your primary residence, aka the one you occupy full time.
Homebuyer assistance programs are geared toward those in need, not investors or second home buyers.
To that end, 2-4 unit properties are generally not permitted, though condos/townhomes, and manufactured housing are.
Lastly, you will still be subject to a minimum credit score requirement and a maximum debt-to-income (DTI) ratio.
So you’ll still need to qualify for a mortgage like you would any other type of loan, though there may be more flexibility via state housing agencies.
In closing, if you’re not sure homeownership is in reach, take a moment to research the many homebuyer assistance programs out there. You might be surprised at what you come across.
Historically low mortgage rates had their moment in the sun in 2020. They rested far below 3% for months before America’s economic rebound pushed them back up in the winter of 2021. But data released on Thursday from Freddie Mac showed that mortgage rates idled below 3% again for an entire month, even with solid first-quarter GDP figures and encouraging consumer spending numbers.
Mortgage rates may look fickle, but the Treasury market rules them. If the 10-year yield rises it’s most likely the result of inflation expectations picking up, and with them, mortgage rates. When the 10-year-yield drops, inflation expectations are falling. That’s the simple answer.
While America continues to emerge from the COVID-19 crisis, other parts of the world are very much in the thick of it. A COVID-19 variant first identified in India has even threatened the U.K.’s plans to end lockdowns, Prime Minister Boris Johnson said.
Because the market is still so uneasy globally, U.S. investors relaxed momentum on the bond market, leaving mortgage rates with a better outlook than expected. Most industry experts predicted that rates would have settled far above 3% by now.
“This may be the most complicated 10-year-treasury yield data the market has ever seen, but no matter how good the economic data is, COVID is still here,” said Logan Mohtashami, lead analyst at HousingWire.
“When you look at two other massive economies, Germany and Japan, Germany’s 10-year-yield is in the negative. Our bond yields look much better than theirs so we can’t in a sense be at a 3% mortgage rate when the gap between ours and Germany’s yields are too far apart. There has to be balance.”
Beyond the 10-year-yield, two other yields exist in the market: retail and wholesale that fluctuate in the primary and secondary market, respectively, and which both have tightened recently.
“The reasons for why those spreads might have tightened is simply less frenzied retail market profit margins have come down a little bit in the retail market, and investors are a little bit more willing to bear the optionality of mortgages on the Treasury,” said Bill Emmons, economist for the Federal Reserve of St. Louis.
In wholesale, buyers of federally guaranteed mortgage-backed securities (MBSs) factor two financial components into the price they are willing to pay for MBSs — compensation for the pure time value of the money being invested and compensation for the interest-rate risk associated with mortgage investments, Emmons explained.
While time value is typically approximated by the yield on a Treasury security of equivalent duration i.e. the 10-year Treasury, risk compensation is more effected by mortgage borrowers prepaying their mortgage principal at face value at any time without penalty.
“People that had been looking to invest in treasuries or MBSs last year when yields were so low they were struggling to generate the kind of income they need to fund their liabilities in some cases,” said Mike Fratantoni, chief economist for the Mortgage Bankers Association. “When our yields look much more attractive than those of the rest of the world, mortgage rates get to a level on the investor side that generate a lot more interest, but we are going to go through periods where they plateau or dip back down as we watch the market.”
Keeping an eye on inflation
While investors study the bond numbers in other countries, the Federal Reserve’s adjustments on inflationary policies are keeping them just as busy.
In April, the Federal Open Market Committee left future economic policies virtually unchanged at its monthly meeting, indicating it has not made any near-term plans to taper its asset purchases of Treasury– and mortgage-backed securities while it awaited data on vaccine distribution, employment and inflation numbers.
The Fed mentioned that inflation had in fact “risen” but attributed the higher readings to “transitory factors.”
Overall, while March posted hopeful signs of a recovering economy, Fed Chairman Jerome Powell said it will take a string of good months before the Fed chooses to roll back any monetary policies.
“There is growing concern about what’s happening with inflation,” Fratantoni said. “Consumer inflation expectations are starting to increase as well so or the next couple of months bond investors are going to start to worry a bit more about both the impact of faster growth and faster inflation.”
Despite the lackluster unemployment report in April, the consumer price index still estimated inflation hitting 4.2% on a year over year basis. Typically, mortgage rates respond to this kind of data, and in theory, should have, given the historic number for core inflation as well.
When mortgage rates failed to pick up in the last month, savvy homebuyers jumped back on them. But even with rates slipping to previous lows, borrowers are still battling it out in the bidding trenches on overheated prices. April economic data for home sales showed year over year numbers are still above those in 2020, but beginning to dip sequentially.
“The inflation data should moderate as production levels catch up with the COVID-19 backlog,” Mohtashami said. “So, we have hotter-than-normal inflation data, and rates are still low, even with the rise of the 10-year yield. COVID-19 has kept global bond yields low in 2021, but for 2022, this no longer works as a legitimate reason.”
A diagonal spread is an options trading strategy that involves taking a long and short position on the same stock with different strike prices and different expiration dates. It’s a combination of a vertical spread and calendar spread.
Using this strategy can allow the trader to get an early payday if the stock moves in a direction that’s in their favor. The way it works is the trader makes two options trades — either call options or put options simultaneously, with different strike prices and expiration takes.
Diagonal Spreads Defined
Diagonal spreads combine a two-step options trading strategy and are considered an advanced trading tactic. It’s a combination of a calendar spread and a short call or put spread. These positions have different expirations and different strikes which spread off diagonally, hence the name of the strategy.
A calendar spread is when a trader buys a contract with a longer expiration date while going short on an option with a near-term expiration date with the same strike price. But if two different strike prices are used, this is a diagonal spread.
A diagonal spread includes a calendar spread, also referred to as a horizontal spread or a time spread, combined with a vertical spread, because different strike prices are involved.
How Diagonal Spreads Work
A long put diagonal spread involves purchasing a put for some time in the future while selling a put in the short-term. Purchasing an option in the later term tends to be more expensive due to the embedded value of time. On the other hand, the trader sells the nearer term option to lower the cost of the other option. Traders usually use diagonal spreads when they have conviction on a stock’s movement while minimizing the effects of time.
A diagonal bull spread becomes a valuable trade when the price of the stock increases, while a diagonal bear spread increases in value when the stock price decreases.
Diagonal spreads require experience because traders have to account for volatility and have a good sense of timing.
Setting Up a Diagonal Spread
When traders are bullish on a stock, they generally use call options vs. using put options when they’re bearish on a stock.
The most common way to set up a diagonal spread is to buy a back month option that is in the money, which is a futures contract whose delivery dates are further into the future. Then, you sell a front month option with a strike price that is out of the money, which is a contract that has a near-term expiration date.
Setting up a diagonal spread in this manner would constitute a debit spread, though credit spread structures can also be used.
Maximum Loss
When a stock’s price rises, the maximum loss is equal to the premium paid when buying a call. If the stock falls, the maximum loss is the difference between the strike prices plus or minus the option premium paid or received.
Maximum Profit
It can be difficult to anticipate what the maximum gain may be since traders can’t know what the back-month option will be trading at when the front-month option expires as a result of shifting volatility expectations. In a long diagonal spread, the stock price must be near the short strike for a trade to go in the market participant’s favor.
The max profit potential for a short diagonal call spread is the net credit received minus commissions. If the strike price plummets below the short call, the value of the spread will be close to zero and the credit received is profit.
On the other hand, the max profit scenario of a short diagonal put spread is when the stock price soars above the strike price of the sold higher strike put option, as the value of the spread nears zero and the credit received is profit.
Breakeven Point
The breakeven point cannot be calculated, rather it can be estimated. The breakeven price at expiration for a long call is below the strike price of the short call. During expiration of a long call, the breakeven point is the stock price at which the price of the short call is the net credit received for the spread.
Traders are not able to predict what the breakeven stock price will be because it depends on market volatility, which can impact the price of the short call.
Diagonal Spread Examples
In one example, a trader is bullish on ABC stock, currently priced at $300. If the front month is January and the back month is February, the trader may want to purchase a $298 strike call with February expiry, which is in the money. Then the trader sells a $302 strike call with January expiry, which would be out of the money. This would give the trader a four-dollar wide diagonal spread.
In another scenario, a trader is bearish on XYZ stock at a current market price of $129. To set up a diagonal spread, the trader could buy a $132 February put, which would be several dollars in the money. Next, the trader could sell a $126 January put, which would be a few dollars out of the money. This trade would be a six-dollar wide diagonal spread.
Types of Diagonal Spreads
There are different types of diagonal spread strategies traders can use to get their desired outcome. Here are several diagonal spreads traders can try:
1. Long Call Diagonal Spreads
To execute on a long call diagonal spread, traders must buy an in the money call option with a longer term expiration date and then sell an out of the money call option with a nearer term expiration date. Traders can use this advanced options strategy if they are mildly bullish on a stock in the near term and very bullish in the longer term. An ideal set up for a long call diagonal spread is during times of low volatility as you do not want your trade to be disrupted by sharp price swings.
2. Long Put Diagonal Spreads
To execute on a long put diagonal spread, traders must buy an in the money put option with a longer term expiration date and then sell an out of the money put option with a nearer term expiration date that has an out the money strike. Traders typically use long put diagonal spreads to mimic a covered put position.
3. Short Call Diagonal Spreads
A short call diagonal spread is when traders sell a long-term call with a lower strike price and buy a shorter-term call with a higher strike price. A trader benefits from a short call option when the price of the underlying asset falls, thus making this a bearish strategy.
4. Short Put Diagonal Spreads
A short put diagonal spread involves selling a longer-term put with a higher strike price and buying a shorter-term put with a lower strike price. This is a bullish strategy, as the trader benefits if the underlying asset goes up in price, making both options expire worthless and netting the investor the net credit earned at the beginning of the trade.
5. Double Diagonal Spread
A double diagonal spread is when a trader buys a longer-term straddle and sells a shorter-term strangle, a trade that benefits from time decay and an increase in volatility. Traders setting up a double diagonal are long the middle strike calls and puts, which expire further in the future, and short out of the money call and put options with sooner expiries. The ideal outcome for double diagonals is to stay between the two OTM strike prices as they approach expiration.
Risks of Diagonal Spreads
The biggest risk traders have in diagonal spreads is overpaying for the diagonal spread. That said, the maximum risk is the debt a trader incurred to enter the position. If traders pay too much for their diagonal spreads they can remain unprofitable.
Market volatility can be used to the trader’s advantage when using diagonal spreads, although it can also pose a risk to such trades. Depending on the level of volatility, it can substantially change the price of the option and impact the trader’s profit potential. Diagonal spreads are an advanced trading strategy so traders who are experienced in dealing with volatility are best suited to incorporating diagonal spreads in their investment strategy.
The Takeaway
Setting up a diagonal spread correctly is an important part of the profit potential of the strategy, otherwise traders are at risk of losing money. This advanced options trading strategy requires traders to make both long and short trades, either with calls or puts, that have different expiration dates and strike prices. Traders should know these option trades are lined up diagonally from one another.
Qualified investors who are ready to try their hand at options trading, despite the risks involved, might consider checking out SoFi’s options trading platform. The platform’s user-friendly design allows investors to trade through the mobile app or web platform, and get important metrics like breakeven percentage, maximum profit/loss, and more with the click of a button.
Plus, SoFi offers educational resources — including a step-by-step in-app guide — to help you learn more about options trading. Trading options involves high-risk strategies, and should be undertaken by experienced investors.
With SoFi, user-friendly options trading is finally here.
Photo credit: iStock/percds
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Options involve risks, including substantial risk of loss and the possibility an investor may lose the entire amount invested in a short period of time. Before an investor begins trading options they should familiarize themselves with the Characteristics and Risks of Standardized Options . Tax considerations with options transactions are unique, investors should consult with their tax advisor to understand the impact to their taxes. SOIN1121485