Olga's Options. Lesson 2. 6/4/22

Olga has Master’s Degree in Mechanical Engineering and she was smart enough to marry me, so she is not a person of low intelligence.

None-the-less, she had to study off-and-on long hours for 3+ years to understand futures markets and the two methods of market analysis, namely technical and fundamental, before she felt she was ready to start trading futures. At the time, she did not know there was such a thing as options on futures contracts. In part, that was by my design because if one does not understand how the futures market works, there is no way to understand how options on futures contracts work.

After she had been trading futures for a year or so, on March 3rd, 2022, I explained options to her. Since she thoroughly understood the ins and outs of the futures market, she quickly grasped the benefits and opportunities of options. When I say “quickly,” I mean about 20 minutes.

She pretty much shut me off and began to look for the put option quotes of wheat since she was bearish CBOT wheat. She took no more than 5 minutes to get the May and July wheat put strike prices and premium values recorded on her scratch paper and looked closely at the relationship of the futures price, strike price and the premium.

She was like a kid in candy shop. She instantly recognized the benefit of being able to profit from the futures price moving up or down without any concern for a margin call.

The buyer of an option has limited loss potential and unlimited profit potential.

Definitions:

Margin call: A required additional amount of money that must be deposited in a futures trading account when the balance in a futures trading account falls below the minimum required equity to maintain a futures position.

At the end of every trading day, all the futures account which lost money that day has dollars removed and placed into the futures accounts that made money that day.

Initial Margin: The amount of money that must be in a futures trading account to initiate a futures position.

Maintenance Margin: The amount of money that must be in a futures trading account to maintain a futures position. When the equity of the account falls below the maintenance margin requirement, a margin call is issued to bring the account equity back to the initial margin.

Options on futures: The buyer has the right, but not the obligation, to buy (call option) or sell (put option) futures at a specific.

Option strike price: The specific price that the buyer of the option has the right, but not the obligation, to buy or sell a futures contract. It is fixed, it never changes no matter what the futures price does.

Premium: The market value of a specific option on a futures contract. The price at which an option can be bought or sold. The premium of an option changes as the futures market price changes.

Call Option: Premium increases as the underlying futures market price moves higher.

Put Option: Premium increases as the underlying futures market price moves lower.

Exercise an Option: When the buyer of the option executes his right (his choice, his option) to exchange the option for a futures position at the strike price of the option.

Out-of-the-Money Option: Any option, if exercised, would result in a futures position with a loss.

She bought the following options in the early afternoon of March third:

Olga spent $8,450 on wheat puts within 25 minutes of her first exposure to options!

The war in the most productive wheat area of the world had just started seven days before and all but two options were way, way out-of-the-money. She scared me!

This is the same woman who freaked-out when her first futures trade was losing $225 just a year ago.

But, if wheat futures went higher, she would not have to make any margin calls. The freedom from concern about margin calls was all she could think about.

To continued...

Want to read more?

Subscribe to wrightonthemarket.com to keep reading this exclusive post.

Subscribe Now