Commodity options trading how to
With commodity options, the risks that drive movement are quite different than what drives equities. It could be based off supply reports or interest rate changes by central banks. Because the risks are different, it can give you a way to diversify your trades against different risks. This can be crucial when finding the best trades. Joe farmer needs to sell his soybeans. Spacely Sprocket company needs to hedge their Euro risk. ZeroHedge has to buy more silver to combat the manipulators. They look to buy stock in companies.
Contrast that to gold and oil: From a structural standpoint, they aren't "investments. I see two possibilities heading into the summer months.
If we get the first scenario, then correlations will ratchet up among stocks and it will be a macro game again. However, it now appears that options on commodities will finally hit the market sometime soon. You can read the new article here. Since then commodities exchanges have been working hard to build a good framework to introduce the commodities options.
Given this, I thought it would be good to have this quick note on what to expect and what to look for in the commodities options market. Just like futures, the options theory for commodities would remain the same.
One of the important bits that you need to note with commodity options is that these are options on Futures and not really the spot market. For example, if you look at a call option on Biocon, the underlying for this option is the spot price of Biocon. Likewise, if you look at Nifty options, the underlying is the spot Nifty 50 index value.
However, if you were to look at an option on Crude Oil, the underlying here is not the spot price of Crude Oil. This is quite intuitive as we do not have a spot market for Crude Oil or for that matter any commodities in India. However, we do have a vibrant futures market. Hence the commodity options are based on the commodity futures market.
So in a sense, this can be considered a derivative on a derivative. For all practical purpose, this should not really matter to you while trading. The only technical difference between an regular option with spot as underlying and option on futures is the way in which the premium is calculate. The difference between these two models is the way in which the continuous compounded risk-free rate is treated. I will not get into the details at this point. We still do not know how the exchanges will set up the framework for these options.
To begin with, exchanges may roll out Gold options, and would slowly but for surely introduce options on other commodities. Here are the highlight. Lot size — Since these are options on futures, the lot size will be similar to the futures lot size. This is where it gets a little tricky. Settlement — For daily M2M settlement in Futures, the exchange considers the commodities daily settlement price DSP as the reference value. The DSP of the commodity on the expiry day will therefore be the reference value for the options series as well.
Consider this example — Assume the DSP of a commodity is Assume this commodity has a strike interval at every 10 points. An explicit instruction will devolve the option into a futures contract. The futures contract will be at the strike.
Now, here is an important thing that you need to remember — If you do not give an explicit instruction to devolve your CTM option, then the option will be deemed worthless.
You need to be aware that settlement in options market is by means of devolving the option into an equivalent futures position. In the absence of which, the contract will be automatically settled by means of devolvement. There could be an instance where the ITM option that you have may not be worth exercising given the taxation and other applicable charges. So in this case, you are better off not exercising your ITM option rather than exercising it.
Now, we all know that a futures position requires margins to be parked with the broker. How do we account for this? I mean, when I go long on option, I just have to pay for the premium right? I will cut through the technicalities and let you know what you should know and expect —. I guess as and when the option contracts roll out, we will have greater insight into the structure.
I will updated this chapter when the commodity options roll out with the exact information. First week of October most likely. I have the following questions though: If no then that means we have to carry losses without having an option to square off. That will be disastrous situataion. What will be likelihood of the options been rigged off in the beginning?
I am scared may be some big players take us for a ride perticularly in the commencement months. Do we have to open commodity account with Zerodha to trade commodity options. Then why is it european style options. They both can be squared off any time. What do they mean that european style options can only be exercized on expiry? Does that mean that ITM options of buyers can not be squared off before expiry?
I am familiar with the equity options of NSE for a long time. And I am very comfortable with them. Now this beast comes up for which I am desparately waiting since announcement 2 years back.
Almost daily I search for commodity option start date. But now it seems its nearby. Apart from the commodity options, there was a news about 6 months back about commencement of Cross currency futures and options. But now it seems they are out of the basket of hope. Yup, its to do with devolvement I guess. Btw, this is just the draft..
Rohit, this is commodity options, they are structured slightly differently from Nifty options. Sir do u ve any idea about wat ill be d premium on gold ill be an average.. It was announced that the Gold options would start somewhere between 6th and 12th October.
Accordingly, the following amendments are made in the Business Rules of the Exchange by inserting Business Rules The above amendment in Chapter 1 of the Business Rules of the Exchange shall come into force with effect from the date of this circular.
Members are requested to take note of the same and ensure compliance. Hi Sir I am confused about last trading day and settled price, please help Which is last trading day it is 5th or 2nd of every month If it is 2nd, settled price of which date would be considered? Last trading date would be 3 days prior to the tender date.
For settlement, the exchange would consider the daily settlement price DSP. Actually Sir I was asking, If I sell one call option then final settlement would be according to which date settlement price? Looking at the handouts at mcxindia, Option contract will devolve into a futures position as if taken at the strike price of the Option contract. Lack of awareness is perhaps the single biggest reason.
I think equity markets itself is still in its nascent stage, it will be a while for the commodities market to pick up full steam. Thankyou for replying Karthik. Is there a way to play options in india on gold, crude, soybean and coffee? Gold options are available on the exchanges, but unfortunately, there is not much activity there. No other commodity options are available. If one were to talk about the crude oil options, then you need to remember the following — The underlying for Crude oil option is Crude oil Futures The underlying for crude oil futures is the price of Crude Oil on NYMEX So in a sense, this can be considered a derivative on a derivative.
Now, the question is why would you not want to exercise an ITM option? I will cut through the technicalities and let you know what you should know and expect — Commodity options will expire few days before the first tender date of the futures contract. Half of the required margin needs to be available a day before the expiry and the remaining half on the day of expiry of the options contract to convert the position to a futures contract.
For example, The Expiry of the Gold option contract is on 28 November and the futures contract expires on 5 December Half of the margin needs to be added to the account on 27 November and the remaining on 28 November If you holding a deep ITM option, then the profits arising out of this position will be considered to offset a portion of the margins required Given the above point, the deeper the option, lesser would be the margin required.
You would opt for this if you know that the position is not going to be profitable owing to taxes and applicable charges. August 22, at 6: August 22, at 7: September 2, at 5: August 23, at 7: August 23, at August 28, at 7: August 29, at August 29, at 4: August 30, at September 2, at 4: September 2, at September 11, at September 12, at September 14, at 5: September 15, at October 9, at 3: October 10, at October 12, at 8: October 13, at October 14, at 9: October 14, at 1: October 15, at 7: October 15, at October 14, at 8: October 17, at 9: October 17, at 4: October 17, at October 17, at 1: October 18, at October 23, at 6: October 24, at October 17, at 2: October 17, at 5: October 24, at 1: October 25, at October 25, at 4: October 26, at October 25, at 5: October 26, at 8: October 27, at 9: November 1, at 1: November 1, at November 3, at 6: November 4, at 8: November 5, at November 10, at 1: November 11, at November 24, at 8: November 25, at 1: November 12, at 6: November 12, at December 13, at 7: December 14, at 1: December 17, at 5: December 18, at January 6, at January 7, at