Home / Markets / Markets Analysis / Scratch and claw

Scratch and claw

Agriculture.com Staff 03/12/2009 @ 12:36pm

The last couple of years have seen significant price rallies in the corn and soybean markets from the fall of 2006 to the winter of 2007 and then again from the fall of 2007 through the winter of 2008.

This year has not experienced that price movement, and with mid-March quickly approaching, it may not. Economic factors continue to exert major downward pressure on all markets' ability to rally. Follow-through buying dries up after rallies start. Perhaps a lack of liquidity or dollars in order to chase markets higher is the reason, or it could simply be that, fundamentally, there just is not enough concern by end users to cover needs. Whatever the case, prices continue to move in mostly a sideways to lower pattern.

As the markets continue to plod along, in many cases moving nowhere, there does not appear to be much (if any) opportunity. If you are holding inventory, there is a cost associated with storage. One way to challenge the market to move upward and yet try to recoup the cost of holding grain is to sell CALL options. A CALL option gives a buyer the right to own at a certain level (strike price) but not the obligation. The buyer pays a fixed premium, which in turn is their maximum risk. For many grain producers or, for that matter, livestock users of corn, buying a CALL option is either a good re-ownership strategy or an insurance policy against higher prices.

However, in a year like this where prices have traded in a 50-cent range for three months, CALL options eventually lose value due to time erosion. If holding grain in storage, consider selling a CALL option in order to collect premium. The only way that a sold (or otherwise known as short) CALL can gain value is for the futures market to rally. A rally in futures relates back to a price rally in your cash grain. By selling a CALL option, you collect the premium and in turn are willing to provide the owner of that CALL option the right to be long futures at a higher level.

If the higher level is never reached, you collect all of the premium. This premium can be used to help offset the cost of storage. The market could even rally up to the strike price at expiration, and the option will still lose all of its value. In other words, if prices rally, this could be viewed as a win-win. Your cash grain can gain value, and the option can still lose value. A recent example may be selling July $4.70 corn CALLS in the neighborhood of 14 cents. If July corn is trading near $3.80, it would take a rally of over $0.90 before you may incur a loss. Your breakeven at the option expiration date in June is $4.70 plus the premium earned.

This is a position that requires margin dollars and should only be used by those who have a thorough understanding of options. If you are unsure, be sure to talk to someone who is knowledgeable and can point out the pros and cons of this position. By taking some time to look for these opportunities, you may be helping your marketing significantly.

CancelPost Comment
MORE FROM AGRICULTURE.COM STAFF more +

Farm and ranch risk management resources By: 07/07/2010 @ 9:10am Government resources USDA Risk Management Agency Download free insurance program and…

Major types of crop insurance policies By: 07/07/2010 @ 9:10am Crop insurance for major field crops comes in two types: yield-based coverage that pays an…

Marketing 101 - Are options the right tool… By: 07/07/2010 @ 9:10am "If you are looking for a low risk way to protect yourself against prices moving either higher or…

MEDIA CENTERmore +
This container should display a .swf file. If not, you may need to upgrade your Flash player.
Put Rolls Sending Bearish Signals