TFM Perspective 05-06-2022


Short-Dated Options Have Their Place

Increased volatility and current price levels for corn and soybean futures at or near all-time high levels have created an environment where buying options for a longer time window (December corn and November soybeans) has, for many, become a financial challenge. In most years, if futures prices rally into the winter/spring and provide risk-shifting opportunities, producers may purchase call options to cover forward sales for fall delivery and purchase puts to establish a price floor against bushels that will remain unpriced. Typically, the contracts used are based on December corn and November soybean futures.

The price of options is determined by buyers and sellers who create a trade. In times of high futures prices and volatility, the risk to the writer (seller) of options increases. To reward this risk, option premiums (prices) trade at a higher price than in less volatile time periods. The key components traders measure when pricing options is time, volatility, and proximity to the underlying futures contract. The buyer of a put option has the right (not obligation) to sell futures (short) and the buyer of a call option has the right (not obligation) to own (be long) futures.

Traditional options are options that are attached to the underlying futures contracts for a specified date. December 2022 corn futures options expire on November 25, 2022, and November soybean futures options expire on October 21, 2022. As time is a pricing component, this is a lot of time for the seller of the option to incur risk and, thus, they require more premium. Farmers who would like to establish a price floor without paying for all the time premium of traditional options have alternatives.

Short-dated options utilize the same underlying futures contract (December for corn and November for soybeans) and have a shorter time window. As an example, a July short-dated corn put will expire on June 22, 2022. The advantage to a producer that purchases a short-dated option is a lower cost than a traditional option, due to time. If you wanted to defend new crop prices for near-term events such as potential changes in the weather or a USDA report, spending less on a short-dated option makes good economic sense. Say prices plunge. Though the option has a limited life, it can be converted (exercised) into a short futures, which has the life of a contract that is tradeable. In the case of December corn, you could stay short until the last trading day in December. You must remember that, if you exercise into a futures position, you are now incurring the risk of futures, which, in theory, is unlimited. Stops are a good way to help manage futures risk.

Knowing your marketing tools and how to implement them can help you manage market volatility and shift risk. Brush up on your option marketing knowledge and have conversations with your advisor who can help guide you through your choices so you can choose the right tool for the right time.

If you have any questions on this Perspective, feel free to contact Bryan Doherty at Total Farm Marketing:  800-334-9779.

Futures trading is not for everyone. The risk of loss in trading is substantial. Therefore, carefully consider whether such trading is suitable for you in light of your financial condition. Past performance is not necessarily indicative of future results.


Bryan Doherty

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