Protection for Weather Markets, Report Surprises

May 22, 2012 05:32 AM


The CME Group’s newest product—short-dated, new-crop options—could be a boon to crop producers, particularly when adverse weather is expected or prior to the release of a major USDA crop report.
The new options expire earlier than conventional options and are or will soon be available for December corn, November soybeans, and July wheat. Each new-crop contract offers three early-expiration options contracts. For corn and soybeans, short-dated, new-crop options contracts are listed for May, July, and September. Each contract expires on the last Friday of the previous month. For wheat, the available short-dated options contracts are December, March, and May.
Gary Sundlund, president of Futures International, Chicago, thinks the new options contracts could attract many participants. "They really have potential," Sundland says. "And they’ll be especially active during major crop reports and in weather markets."
The first test of how many participants the new options draw will be in June prior to USDA’s critical Acreage report, which will be released June 29. Sundland says that report has the potential to dramatically affect the November soybean and December corn futures contracts, particularly now that the CME Group has expanded its electronic trading hours for corn, soybeans, wheat, and soybean meal futures listed on the Chicago Board of Trade. Beginning Monday, trading will be open when major crop reports are released.
The new trading hours begin Sunday, May 20, for the Monday, May 21 trade date. Hours will expand from the current 17 hours per day to 21 hours per day on CME Globex from 5 p.m. to 2:00 p.m., Central, Sunday to Friday. Originally the CME Group had planned to expand daily trading to 21 hours. The Commodity Futures Trading Commission has already approved the change.
"There will be no point to buy an option with five and a half months of time and pay a big premium (if you only want protection from potential weather or potential volatility leading up to and following a report) when you can buy a short-dated, new-crop option," Sundland adds. "It costs a lot less and you get the same effect."
According to the CME, the new short-dated, new-crop options are perfect for:
  • Commercial hedgers who want to manage risk during specific windows in the growing season at a reduced cost.
  • Grain elevators who want to hedge a lower-cost "window" version of the traditional minimum price contracts.
  • All players who want to trade high-impact events on new-crop markets.
Grain producers have long been able to manage risk by buying a standard option, which allows them to lock in a minimum futures price at a fixed premium cost, notes the CME Group in a recent document titled Short-Dated New Crop Options on Grain and Oilseed Futures: A Cost-Effective Tool for Trading New Crop Markets. Now, by using the short-dated, new-crop options, a producer can spend less on premium in return for a shorter coverage period.
According to an example presented in the document, premiums for the short-dated, new-crop $5.90 put options on December corn futures range between 38 and 56 cents and are substantially lower than the 67-cent premium for the standard at-the-money December 2012 $5.90 put option on corn.
"The (short-dated, new-crop options) premiums are lower because they have less time value, and hence provide price protection earlier in the planting and growing season in a much more cost-effective way," the document notes. "Calculations are based on premiums of at-the-money options in January 2012 with an implied volatility of 30 percent and a delta of 45 percent." Due to various market factors, December corn futures in early May had fallen to $5.20, which means that the short-dated options would have effectively provided lower-cost protection to the producer.
Sundland does not expect the new options to replace conventional options contracts. "They are a value add, a fantastic tool," he says.

For More Information
Find out how the expanded hours are affecting the ag markets. Read AgWeb's Marketing blogs.



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