Futures trading puts and calls


By using the call option purchase for this strategy, risk is limited to possible loss of the premium paid for that call option. Meanwhile, he has the majority of the proceeds from the canola sale and has reduced risk of spoilage and theft on the quantity of canola sold.

Here is an example of a call option purchase using numbers from the ICE Canada canola market. It is this right that gives the call option its value.

You buy an option…then what? If you buy an option, there are three ways to deal with that option: You can exercise the option, that is, create the specific futures position that buying the option has given you the rights for.

When that is complete, you no longer own an option, but now have a new futures position. If you exercise a put option, you will create a sell futures position in your account; if you exercise a call option, you will create a buy futures position in your account. The specific futures position created will be determined by the characteristics of the option that you owned.

You can sell the option as an option for its premium, which might be greater or less than the premium when you purchased that option. This alternative is often the best choice. You can sell an option anytime that futures and options are trading. You may be able to capture some option premium that would be lost when exercising the option or letting the option expire.

Brokerage commissions to sell an option are usually less than when you exercise the option. If you hold the option until the end of its life, it may not have any remaining premium. When the remaining option premium is less than the brokerage cost to sell that option, then you would just let the option expire. Like insurance, in letting an option expire, you could consider that the option provided specific protection i. Option Premium There are two parts to an option premium … intrinsic and time value.

Intrinsic value is what the option would be worth as a futures position if the option was exercised. Time value is sometimes referred to as risk premium. Two main factors affect time value, and they are time itself, and volatility of the underlying futures price. Both of these factors are elements of risk. The longer the option life, the greater the risk to someone selling that option.

The more volatile the underlying futures contract, the greater the risk to someone selling that option. Note that, if an option is exercised, any remaining time value in that option is immediately extinguished. Until expiry of the option, there is usually some time value in an option, so it is better to capture some return of that time premium by selling the option rather than exercising it. The premium value of an option is subject to change by open market trading whenever the futures market is trading.

On days when a particular option strike price does not trade, the commodity exchange uses a computer program to estimate the daily settlement value of that option. Alternatively, if the futures price rises, the value of the put option will tend to fall. But, if the futures price rises, it implies that the value of physical canola is also rising. If the option is kept to expiry, and if then the option has intrinsic value i. September Japanese Yen futures are trading at Available call strike prices might be , , , and If the futures price rises to you might find higher strike prices of and made available.

If the futures price drops to you might find lower strike prices of and made available. A call or put is at any given time either in-the-money, at-the-money or out-of-the-money, and as the market price of an underlying futures contract changes this condition is dynamic.

One way to look at this is to consider whether at any moment an option might be worth exercising. If the underlying E-mini future is trading at , the call holder has the right to go long the future 20 points less than its current value.

Is it worth exercising or not? If the underlying E-mini future is trading at , the call holder has the right to go long the future 20 points more than its current value. A call guarantees its buyer a fixed purchase price, the strike price, for the underlying futures contract, if the call is exercised. As the futures price rises that purchase price is worth more to a buyer so the call option increases in value. The opposite is true for a call if the futures price declines. A put guarantees its buyer a fixed selling price, the strike price, for the underlying futures contract, if the put is exercised.

As the futures price declines that sale price is worth more to a buyer so the put option increases in value. The opposite is true for a put if the futures price increases. Calls and puts on the same underling futures contract with the same expiration month will have a range of available strike prices. Again, standardized strike prices are set and specified by the option contract. The time value portion of call and put premiums decreases over time.

This is referred to as time decay. The rate of decay is not linear, it increases as expiration approaches. Volatility is a function of price movement of an underlying futures contract. Precisely, it is a measurement of price fluctuation up or down, not a sustained upward or downward price trend. Call and put buyers want more volatility and are willing to pay more premium for it. Call and put sellers want lower volatility, i.

They require more premium for the inherent risk of higher volatility levels. Many investors buy calls or puts with no intention of exercising into a long or short underlying futures position. Instead they make an offsetting transaction to take a profit or cut a loss.

Offsetting a call position in no way involves a put transaction, and vice versa. Once a long position is offset a call or put buyer is out-of-the-market and no longer has rights to exercise and buy for a call or sell for a put the underlying futures contract. Once a short position is offset a call or put seller is out-of-the-market and assignment is avoided. The seller no longer has the obligation to buy for a call or sell for a put the underlying futures contract.

The information herein has been compiled by CME Group for general informational and educational purposes only and does not constitute trading advice or the solicitation of purchases or sale of any futures, options or swaps.

All examples discussed are hypothetical situations, used for explanation purposes only, and should not be considered investment advice or the results of actual market experience. The opinions expressed herein are the opinions of the individual authors and may not reflect the opinion of CME Group or its affiliates. Current rules should be consulted in all cases concerning contract specifications.

Although every attempt has been made to ensure the accuracy of the information herein, CME Group and its affiliates assume no responsibility for any errors or omissions. All data is sourced by CME Group unless otherwise stated. All other trademarks are the property of their respective owners.

Neither futures trading nor swaps trading are suitable for all investors, and each involves the risk of loss. Futures and swaps each are leveraged investments and, because only a percentage of a contract's value is required to trade, it is possible to lose more than the amount of money deposited for either a futures or swaps position. Therefore, traders should only use funds that they can afford to lose without affecting their lifestyles and only a portion of those funds should be devoted to any one trade because traders cannot expect to profit on every trade.

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