A “Collar” is buying a put below the market and selling a call above the market. This establishes a price “floor” and also creates a price “ceiling”. In this example the producer buys a $5.00 put for $0.20/bu.and sells a $6.50 call for $0.20/bu. for a net price of $0.00/bu. The main reason for using this strategy is that the short call (ceiling) helps finance the long put (floor). This is a marginable position.
Scenario #1: Prices go higher
In this example, futures prices turned higher ending at $6.80/bu. Since the futures price is above the call strike price, the short $6.50 call will be converted to a short futures position at $6.50.
The entire position results in a net price of $6.50/bu. (plus basis). The producer can convert the short futures contract to a cash sales contract at the local delivery location.
Scenario #2: Prices go lower.
In this example, futures price turned lower and ended at $3.50/bu. Since the price is below both the put strike price, the producer will convert to a short futures contract at $5.00. The short futures contract can then be converted into a cash contract at the local delivery location.
The entire position results in a net price of $5.00/bu (plus basis).