Buying Call Options

A call option gives the purchaser the right a buy, but not the obligation, to go long a particular commodity contract at a specific price. Buying call options is to profit from an anticipated increase in the underlying futures price. A call option buyer will realize a net profit if, upon exercise, the underlying futures price is above the option price by more than the premium paid for the call option. Each call option specifies the futures contract which may be purchased, known as the "underlying" futures contract, and the price at which it may be purchased, known as the "exercise" or "strike" price. Opposite of put options, the most that a call option buyer can lose is the call option premium paid plus any transaction costs. The strike price of a call option is the contract price at which the underlying commodity will be bought in the event that the option is exercised. The last date on which an option can be exercised is called the expiration date. Options may allow for one of two forms of exercise: American exercise, the option can be exercised at any time up to the expiration date. European exercise, the option can be exercised only on the expiration date.

Example: Expecting a rise in the price of gold, you pay a premium of $1,000 to place an order for a June 420 gold call option. The call option gives you the right, but not the obligation to buy a 100 ounce gold commodity contract for $420 dollars an ounce. If the June futures price has risen to $450 an ounce, the call option giving you the right to purchase at $420 can thus be exercised at a gain of $30 an ounce. On a 100 ounce gold contract the sum is equal to a $3,000 gain. Less the call premium, $1,000 paid for the option, your net profit is $2,000. Had you been wrong about the direction or timing of the change in the gold price, the risk is limited to the $1,000 dollar premium paid for the call option plus any transaction costs.

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