Buying Oats Put Options to Profit from a Fall in Oats Prices

If you are bearish on oats, you can profit from a fall in oats price by buying (going long) oats put options.

Example: Long Oats Put Option

You observed that the near-month CBOT Oats futures contract is trading at the price of USD 2.0900 per bushel. A CBOT Oats put option with the same expiration month and a nearby strike price of USD 2.1000 is being priced at USD 0.1400/bu. Since each underlying CBOT Oats futures contract represents 5,000 bushels of oats, the premium you need to pay to own the put option is USD 700.00.

Assuming that by option expiration day, the price of the underlying oats futures has fallen by 15% and is now trading at USD 1.7760 per bushel. At this price, your put option is now in the money.

Gain from Put Option Exercise

By exercising your put option now, you get to assume a short position in the underlying oats futures at the strike price of USD 2.1000. In other words, it also means that you get to sell 5,000 bushels of oats at USD 2.1000/bu on delivery day.

To take profit, you enter an offsetting long futures position in one contract of the underlying oats futures at the market price of USD 1.7765 per bushel, resulting in a gain of USD 0.3240/bu. Since each CBOT Oats put option covers 5,000 bushels of oats, gain from the long put position is USD 1,620. Deducting the initial premium of USD 700.00 you paid to purchase the put option, your net profit from the long put strategy will come to USD 920.00.

Long Oats Put Option Strategy
Gain from Option Exercise=(Option Strike Price - Market Price of Underlying Futures) x Contract Size
=(USD 2.1000/bu - USD 1.7760/bu) x 5000 bu
=USD 1,620
Investment=Initial Premium Paid
=USD 700.00
Net Profit=Gain from Option Exercise - Investment
=USD 1,620 - USD 700.00
=USD 920.00
Return on Investment=131%

Sell-to-Close Put Option

In practice, there is often no need to exercise the put option to realise the profit. You can close out the position by selling the put 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 oats option sale will be equal to it's intrinsic value.

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