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MINIMUM PRICE Contract Using a Call Option

This alternative is a cash grain contract that calls for delivery of grain at a specific time. The contract will set a timeframe which the seller can benefit if the futures market price moves higher than the contracted price. The basic premise of the contract is that it allows the seller of grain the ability to sell grain at a specific minimum price, but also affords the seller to benefit if futures market prices move higher after the sale is made.

ADVANTAGES
  • Provides a minimum price to the seller with the opportunity to participate in higher prices if the futures market moves higher before the contract’s expiration date.
  • Allows the seller the ability to capture favorable carries when available without finalizing the price of the grain.
  • Provides immediate payment for the cash grain upon delivery. The payment is limited to minimum price outlined in the contract.
 

DISADVANTAGES
  • The minimum price that is guaranteed by the contract is a discount to prices that can be received if one simply sells cash grain.
  • Higher futures prices may not guarantee the seller an equally higher price than the minimum price quoted on the contract.
  • The futures market may never increase enough to recover the premium spent.

EXAMPLE On October 1st, Fremar quotes you a cash price for March delivery at $5.50. You want to sell grain today, but be able to get a higher price if the market rallies. You purchase a March call option and choose the $6.00 strike price that costs a 35 cent premium. This option expires February 22nd and you have up until that deadline to re-price your contract. Your minimum price contract with Fremar LLC is written for $5.15 (5.50-.35). On February 1st, grain prices have rallied to $6.40 March futures. Your $6.00 call option is worth a 55 cent premium today, and you instruct Fremar to re-price your contract by exiting your call option. Your minimum price contract is re-priced at $5.70 ($5.15+.55=5.70) and this is your final cash price. You deliver the grain in March.
 
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