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Understanding Futures Options Trading

Commodity Options Contents:

INTRODUCTION

Options trading on futures contracts have added a new dimension to commodity trading. Like futures, trading options provide price protection against adverse price moves. Present-day options trading on the floor of an exchange began in April 1973 when the Chicago Board of Trade created the Chicago Board Options Exchange (CBOE) for the sole purpose of trading options on a limited number of New York Stock Exchange-listed equities. Options on futures contracts were introduced at the CBOT in October 1982 when the exchange began trading Options on U.S. Treasury Bond futures.

Trading Options

Options trading differ considerably from futures. When used prudently, options can be of immense importance, especially in attempting to preserve the value of an existing fixed-income portfolio.

To many in the financial markets, options are considered "insurance" against adverse price movements while offering the flexibility to benefit from possible favorable price movement.

The reasons for trading commodity options on futures are reflected in the structure of an option contract.

First, an option, when purchased, gives the buyer the right, but not the obligation, to buy or sell a specific amount of a specific commodity at a specific price within a specific period of time. By comparison, trading futures contracts requires a buyer or seller to perform under the terms of the contract if an open position is not offset before expiration.

Second, the decision to exercise the option is entirely that of the buyer.

Third, the buyer of options can lose no more than the initial amount of money invested (premium). That is not the case, however, for the buyer of a futures contract.

Finally, an options buyer is never subject to margin calls. This enables the purchaser to maintain a market position, despite any adverse moves without putting up additional funds.

Option Terms Continue                    

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Trading in futures and options involves a high degree of risk and may not be suitable for everyone.