Dairy Futures and Options Tutorial

Comparison of the Use of a Put Option to Establish a Floor Price Versus Use of a Short Hedge

Below we show you how you can use a PUT option to establish a price floor for your output. You will be asked to input hypothetical or actual market closing data for a particular put contract

Current Date:

What Options do you want to investigate

Please input the relevant price futures and options information:

Current Futures January Class III Settle Price
January Class III Put Strike Price
January Class III Put Strike Price
January Class III Put Strike Price

The following shows the expected output price you would receive if you enter into a short hedge using the above futures settle price, your basis and commissions:

Result if you had hedged
Futures Settle Price + Assumed Basis - Futures Commission = Expected Hedged Output Price
0.00 0.00

With the above strike prices, the following minimum selling prices are established if you purchase a put option. Remember you are assuming the above basis relationship.

Establishment of Minimum Output Price
Strike Price - Put Premium - Options Contract Commission - Futures Contract Commission + Basis Minimum Output Price established through Put
0.00 0.00 0.00 0.00
0.00 0.00 0.00 0.00 0.00
0.00 0.00 0.00 0.00 0.00

Assume a number of days, weeks or months pass. It is expected that the final settle price for January Class III futures contract will have changed since . Below you can enter the final futures contract settle price. Assuming your basis does not change, you also know the actual cash market price at contract settle. Let us conduct some what-if scenarios. First, what would have been the impact if you had hedged your output using the futures contract settle price noted above. As shown in the hedging table, you would have locked in an output price of 0.00 regardless of the final settle price. What would have been the impact if you had purchased one of the the above PUT options? To provide a comparison of the short hedge versus use of options to establish a minimum price select either Exercise or Let Expire in the following example after you input a final cash settle price for the underlying futures contract.

After you decide whether you want to exercise your option, the implications of this decision on your net selling price is displayed in the next to last column of the following table. You may want to try one action, examine the impacts and then try the other action. You then may want to intially input a final cash settle price that is less than 0.00, try both decisions with respect exercising your option, and then redo the example by changing the final cash settle price so that it is significantly greater than 0.00.

Expected Hedge Output Price: 0.00
Final Cash Settle Price:
What do you want to do with your option?
Exercise Let Expire

Here are the implications if you had purchased put options:

Net Selling Price under Put Option
Options Strike Price Final Settle Price Basis (+) Actual Cash (=) Option Gains (+) Net Selling Price under Options Preferred Strategy
0.00 0.00 0.00 0.00 0.00 0.00 0.00
0.00 0.00 0.00 0.00 0.00 0.00 0.00
0.00 0.00 0.00 0.00 0.00 0.00 0.00