Consider call option premium to add value to stored corn, analyst says
With harvest quickly approaching 50% or more completion, many corn producers are relatively certain about their total production. If you are storing, your goal is to capture basis improvement, price improvement, or both. If you are willing to take an additional risk, consider selling call option premium.
This is done through the writing (selling) of call options. It is suggested to sell calls that are out of the money. Out-of-the-money call options are above the current futures price. The level of option that you sell is called the strike price.
As an example, a March $7.50 corn call is priced at 15¢. This is considered an out-of-the-money call if March futures are trading at $6.80. The 15¢ represents what is known as time value. Time value can fluctuate as the futures market moves. Unless the futures market rallies, time will erode the value of the call to a point where it could be worthless on the last trading day.
When you sell a call option, you're giving someone else the right to own futures (not the obligation). For that right, you collect a premium. Premium is the price of an option. You are also in a marginable position with unlimited risk.
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While that doesn’t sound very appealing, keep in mind that a call option gains value when the futures price moves higher. Your stored grain will likely be gaining value as the futures price rises.
As an example, if March corn futures are trading at $6.80 and you sell a $7.50 March call option for 15¢, you stand to gain 15¢ at the expiration date (last trading day) in February if March futures are at or below $7.50. Your unpriced corn in storage should have gained value as well. Assuming no basis change and a move from $6.80 to $7.50, your corn in the bin would have gained 70¢.
What if futures are much higher than $7.50? You would still collect the 15¢, however, you would either need to buy back the option to exit or accept the option being exercised. That means you would be assigned a short March futures at $7.50. Your breakeven is $7.65, prior to fees and commission.
You could view this as a win-win. Selling call options against stored grain does not protect the price of what you have in the bin. It does, however, provide an opportunity to add value to your final selling price.
Be sure to have a conversation with your advisor so that you are fully aware of margin call requirements when entering the position and additional margin call requirements that may arise. Have a thorough understanding of the risk of this position. This strategy is not for everyone. However, if you’re relatively certain the market may have a finite upside potential, or you are willing to accept a hedge at a higher level, this strategy may have merit for your consideration.
Editor's Note: 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.
About the Author: With the wisdom of 30 years at Total Farm Marketing and a following across the Grain Belt, Bryan Doherty is deeply passionate about his clients, their success, and long-term, fruitful relationships. As a senior market advisor and vice president of brokerage solutions, Doherty lives and breathes farm marketing. He has an in-depth understanding of the tools and markets, listens, and communicates with intent and clarity to ensure clients are comfortable with the decisions.