Hold, Cash in, or Roll
What happened….
Futures prices for corn, soybeans, and wheat have plunged over the last several weeks, particularly over the last 10 days. If you purchased put options prior to prices dropping, you might be asking yourself: Should I exit the position or roll it to a lower strike price? Should I allow the puts to perform their function, establishing a price floor, and hold them until I contract or deliver? What about exercising?
Why this is important….
Just like a lot of things in life, decisions are not made with complete and perfect information. You don’t know what the future holds. Keep reading to learn about several different paths you can take.
Let’s start with the function of a put option: The owner of a put has the right (not the obligation) to exercise into a short futures contract. As an example, the owner of a $5 December corn put can, at any time, exercise and turn this into a short futures position at $5.
Usually, a put exercise occurs near its expiration date when an in-the-money option reflects little or no time value and the owner wants to stay in the market, believing prices will work lower. In a year like this where prices have dropped significantly, even deep-in-the-money options will reflect some time value. Once exercised, the time value is lost, so exercising is likely not much of an option for fall puts at this time.
Your choices are then to hold the put, sell it, or roll it. If holding, the problem here might be one of regret if prices find an early season low. As prices rally, the value of the put will likely decline. If you decide to exit the option and take the gain, you no longer have downward price protection, which is fine if you are comfortable with further price declines.
A roll is the process where you would sell your high strike price put and buy a lower strike price put. The positive in this case is you remain defensive, you “scoop” value into cash, and you reduce your risk of what you might give back if the market rallies. However, you may now own a lower strike put that does not move as fast as the market moves if prices decline. This change in option value is called delta, which measures how an option moves in relationship to the market. A high delta can be one, meaning the option moves penny for penny with the futures. A lower delta implies the movement is less. By rolling, you may be giving up strong delta. A roll can also incur additional commission and fees.
What can you do about it?
Discussing your options with your advisor is a great first step. Work through the what–if scenarios toward a plan to implement the best strategy for you. For some, this means holding deep-in-the-money puts with strong delta. For others, it may mean stepping aside. Yet others might prefer the roll strategy. The goal ultimately is to have a strong vision of your choices and implement what will work best for your operation.
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.
The data contained herein is believed to be drawn from reliable sources but cannot be guaranteed. Individuals acting on this information are responsible for their own actions. Commodity trading may not be suitable for all recipients of this report. Futures and options trading involve significant risk of loss and may not be suitable for everyone. Therefore, carefully consider whether such trading is suitable for you in light of your financial condition. Examples of seasonal price moves or extreme market conditions are not meant to imply that such moves or conditions are common occurrences or likely to occur. Futures prices have already factored in the seasonal aspects of supply and demand. No representation is being made that scenario planning, strategy or discipline will guarantee success or profits. Any decisions you may make to buy, sell or hold a futures or options position on such research are entirely your own and not in any way deemed to be endorsed by or attributed to Total Farm Marketing. Total Farm Marketing and TFM refer to Stewart-Peterson Group Inc., Stewart-Peterson Inc., and SP Risk Services LLC. Stewart-Peterson Group Inc. is registered with the Commodity Futures Trading Commission (CFTC) as an introducing broker and is a member of National Futures Association. SP Risk Services, LLC is an insurance agency and an equal opportunity provider. Stewart-Peterson Inc. is a publishing company. A customer may have relationships with all three companies. SP Risk Services LLC and Stewart-Peterson Inc. are wholly owned by Stewart-Peterson Group Inc. unless otherwise noted, services referenced are services of Stewart-Peterson Group Inc. Presented for solicitation.
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Bryan Doherty