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With Potential for Higher Prices, Consider Ratio Call Spread

There are many strategies that will help to protect you from adverse prices, and even allow you to benefit in certain situations. The potential for rising prices in the coming year is a reason to consider a ratio call spread. Consider the following arguments for rising prices.

Recent weather developments in Argentina and Brazil could lead to a potential downgrade to crops in the Southern Hemisphere. This suggests U.S. prices have good odds of rallying in the year ahead. This may particularly be the case if less-than-ideal weather affects production in the Northern Hemisphere. In recent years, timely weather has produced bountiful U.S. and world crops. The United States has produced record yields in each of the last two years. Since the drought-shortened crop of 2012, production has remained large and supplies often termed as over-burdensome. Large supplies have helped build demand, which is a key variable for the start of a price recovery.

Another important variable for price appreciation is some type of catalyst beyond demand. Most likely, this would come in the form of adverse weather, which could lead to lower production. If smaller crops in South America are a factor this year, the need for large U.S. crops is critical. Price rallies in recent years have been shallow and disappear quickly. If you were not an aggressive seller, you had regrets. Yet we all know there will be a year when prices will shoot higher, and early sales will seem like a mistake. Then what?

A long ratio call spread is an option strategy to consider. Using this strategy, you will sell one at-the-money call and buy three out-of-the money calls. If prices rally, you could end up with two long positions. If you forward sell and prices rise, this strategy has the potential to gain value at a faster pace than the rise in futures prices. Having the call positions in place, you may feel more confident being an aggressive seller. You may also be in a better position to capture additional value if prices shoot higher.

Risk on a ratio call spread is fixed to a range. As with any strategy, talk to your adviser to understand the costs, risks, and rewards, and how it can work in your unique situation. 

If you have questions or comments contact Top Farmer at 1-800-334-9779 Ext 129.

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.

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