A “call” is an option to buy futures at a certain price. In this example the producer makes a cash sale at $5.00/bu. and buys a $5.50 call for a cost of $0.20/bushel. The buyer of the call has until expiration to decide whether or not to convert the call option into a buy or “long” futures position at $5.50/bushel. The most that the buyer of options (puts and calls) can lose is the money spent to buy the option…in this example, $0.20/bu.
Scenario #1: Prices go higher.
In this example, futures prices turned higher ending at $6.50/bu. Since the futures price is above the call strike price, the buyer WILL convert to a long future position at a price of $5.50 (call strike price).
The entire position results in a net price of $5.80/bu. (plus basis). The producer sold futures or cash corn at $5.00 and made and additional $0.80/bu ($6.50-$5.50 – $0.20 cost) in the call options.
Scenario #2: Prices go lower.
In this example, futures price turned lower and ended at $3.65/bu. Since the price is below the the strike price of $5.50/bu. the buyer WILL NOT convert the call option into a long futures position. Instead the call option will simply expire.The entire position results in a net price of $4.80/bu. (plus basis). The producer sold cash corn at $5.00 and lost $0.20/bu. on the call options.