Put Options Lesson 10: Increase in Income

Use Puts with HTA of Forward Contract to Increase Income

On Aril 27^th, 2022, September 2022 wheat settled at $10.89¾, down 2¾¢. The $10 September put settled at 49½¢, up 2 5/8¢. With the price change in the both futures and the put option at 2+¢, one would think the delta was near 1, which does happen when an option is very deep in-the-money. But the $10 put is not in-the-money at all; at today’s close, the $10 put was 89¾¢ out-of-the-money with a delta of .32, as you can see on the chart below.

To give you an example of a put with a delta near 1, the $17.00 September wheat put has a delta of .94! The September $17.00 wheat put is $6.10 in-the-money with the futures at $10.90. That is an example of a deep-in-the-money option.

A person with a short September futures position would have made $137.50 on the 27th; the $10 put and the $9 both made $131.25, which the $10 put should have gained several cents more than the $9 put because the $9 put is a dollar further out-of-the-money than the $10 put.

Puts are traded on wheat, corn, soybeans, oats, canola, rice, etc… the math is the same and here is how the math works in practical application:

Given example: You have a July 2022 wheat HTA at $7.00. Your merchandiser bought a $10 put at a cost of 50¢ a bushel.

Your merchandiser will attach that put and its expense to your $7.00 HTA. The $7.00 HTA becomes a $6.50 minimum price contract, meaning the worst that can happen to you is you will be paid an HTA price of $6.50. However, when that put is sold, if it is sold, the income from that sale will be added to the $6.50 HTA price.

Examples:

The $10 put (bought for 50¢) is sold when September wheat is at $6.50 on expiration day. Since it was expiration day, there would be no time value, but the intrinsic value would be the $10 strike price minus the futures price of $6.50 = $3.50; thus, $3.50 is added to the minimum price of $6.50 and the HTA becomes a $10 HTA. The net cash price paid for the wheat would be $10 plus or minus the basis.

The put can be sold any day. Let’s say you thought $7.20 on July 5th was the low for September futures, so you sold the put. The $10 put would be $2.80 in-the-money and, with about 50 days of life, there would be 10 or so cents of time value, to go with the $2.80 of intrinsic (in-the-money) value, grossing $2.90 on the sale of the put. That $2.90 gets added to the $6.50 minimum price and the HTA price would become $9.40.

If the put was sold for 10¢, the HTA price would be $6.60.

If you had the HTA at your merchandiser and you bought the put in your own options account, the HTA would be treated as a “stand-alone” transaction and the put in your own option trading account would also be a “stand alone” transaction. Your books would show profit or loss on the put transaction as hedge gain (or loss) to (or from) the HTA price at the elevator. If the option expired worthless in your own option trading account, you would still be paid the HTA price ($7.00 in the example) when the wheat was delivered, but your books would show an income of $7 (+or- basis) a bushel minus a hedge loss of 50¢.