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SWEET SPOT FOR


OPTIONS HEDGERS Commercial hedgers in the metals and energy markets enjoy a wide range of ideas, which isn’t the case across all agricultural markets, with some lacking basic levels of options activity.


This article explores whether strategies common in metals and energy be applied to agricultural markets?  from ADMISI Sugar Desk for their valuable guidance)


  but how do you create an options market where none exists?


• Commodity options can originate out of physical business, i.e. be embedded in contract   Customers” use options to cover a physical price exposure, and tend to hold options passively for the duration.


• “Option Market Makers” trade volatility instead of price, actively managing options books and facilitating customer business.


• “Speculators” may trade price direction or volatility, but tend to be found in markets where 


Market Makers are essential to the development of an options market and they need reliable liquidity in the futures market to manage their changing option “delta”.


Provided that futures liquidity is reliable, Market Makers can cope with the “Vega” risk (i.e. sensitivity to changes in implied volatility), and Risk Managers can value positions, then you have the right conditions to grow an options market.


Option delta is the change in the value of the option with a change in the underlying market price. Delta also gives an indication of the probability that the  futures required to delta hedge the option position.


Market makers will trade their option delta during the option’s life (called “gamma hedging”), with option sellers required to buy a rising market and sell a falling market to balance their changing delta. Option sellers are “short gamma” hedgers, which can be an expensive process and eats into the option premium earned for selling the option, so option shorts hope that the price volatility during the option’s life is less than was earned in implied volatility when the option was sold.


This mechanism is reversed for option buyers, who hope that price volatility increases after they buy the option.


The relationship between price volatility during an option’s life and implied volatility when the option was traded determines the market maker’s P&L, and it’s essential that market makers can trade futures reliably to manage their risk and protect their P&L.


OPTIONS CAN BE COMBINED TO CREATE DIFFERENT HEDGE STRATEGIES, BUT HOW DO YOU CREATE AN OPTIONS MARKET WHERE NONE EXISTS?


20 | ADMISI - The Ghost In The Machine | March/April 2019


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