Buying Heating Oil Call Options to Profit from a Rise in Heating Oil Prices

If you are bullish on heating oil, you can profit from a rise in heating oil price by buying (going long) heating oil call options.

Example: Long Heating Oil Call Option

You observed that the near-month NYMEX Heating Oil futures contract is trading at the price of USD 1.4777 per gallon. A NYMEX Heating Oil call option with the same expiration month and a nearby strike price of USD 1.5000 is being priced at USD 0.1000/gal. Since each underlying NYMEX Heating Oil futures contract represents 42000 gallons of heating oil, the premium you need to pay to own the call option is USD 4,200.

Assuming that by option expiration day, the price of the underlying heating oil futures has risen by 15% and is now trading at USD 1.6990 per gallon. At this price, your call option is now in the money.

Gain from Call Option Exercise

By exercising your call option now, you get to assume a long position in the underlying heating oil futures at the strike price of USD 1.5000. This means that you get to buy the underlying heating oil at only USD 1.5000/gal on delivery day.

To take profit, you enter an offsetting short futures position in one contract of the underlying heating oil futures at the market price of USD 1.6994 per gallon, resulting in a gain of USD 0.1990/gal. Since each NYMEX Heating Oil call option covers 42000 gallons of heating oil, gain from the long call position is USD 8,358. Deducting the initial premium of USD 4,200 you paid to buy the call option, your net profit from the long call strategy will come to USD 4,158.

Long Heating Oil Call Option Strategy
Gain from Option Exercise=(Market Price of Underlying Futures - Option Strike Price) x Contract Size
=(USD 1.6990/gal - USD 1.5000/gal) x 42000 gal
=USD 8,358
 
Investment=Initial Premium Paid
=USD 4,200
 
Net Profit=Gain from Option Exercise - Investment
=USD 8,358 - USD 4,200
=USD 4,158
 
Return on Investment=99%

Sell-to-Close Call Option

In practice, there is often no need to exercise the call option to realise the profit. You can close out the position by selling the call option in the options market via a sell-to-close transaction. Proceeds from the option sale will also include any remaining time value if there is still some time left before the option expires.

In the example above, since the sale is performed on option expiration day, there is virtually no time value left. The amount you will receive from the heating oil option sale will be equal to it's intrinsic value.

Learn More About Heating Oil Futures & Options Trading

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