Cattle Hedging Marketing Plan

Are you utilizing Live Cattle Futures to hedge your production at current price levels?

If not, then ask yourself the following question: What price level (using the futures market) would make my operation cost effective?

A straightforward strategy is to simply select that price level, and Sell Out of the Money Call Options.  An uncomplicated strategy, such as this, may serve to make your farm more cost effective over the long haul!

1 contract is equal to 40,000 lbs. or $400 per .01
December Futures = 1.13
February Futures = 1.13

Sell Out of the Money Call Options at your preferred price point!

December 115 call = .0500 ($2000)
December 117 call = .0400
December 120 call = .0300
December 123 call = .0200

February 116 call = .0600
February 118 call = .0400
February 120 call = .0350
February 124 call = .0250

 

Follow these steps to success:

1) Select a futures price point at a beneficial level that you are comfortable hedging your cattle for delivery.

2) Sell an Out of the Money Call Option at that strike price, in the month which you will deliver your cattle to the processor.

3) If the futures are above the strike price sold upon option expiration, then you will assume a short futures position from that strike price.  In addition, you will collect the premium from originally selling the call.

4) If the futures price is below the strike price sold upon option expiration, then you would simply keep the premium from originally selling the call.  This premium can then be applied against your basis.

5) Continue to execute this plan, as you await a possible cattle market rally, allowing you to obtain your preferred hedging price.  If a subsequent rally does not develop, you will continue to collect premium as the options expire worthless.  This premium can then be applied to your operation.

Please review the following four scenarios.  Take note that three of them favor selling the call option, while one does not.  The one that does not is in a market which continues to rally upwards, without pause.  However, market direction is rarely linear in a single direction for extended periods of time.  If this approach is adhered to over time, it may outperform the strategy of simply accepting what the processor provides upon delivery, and will assist to improve your basis.  This example demonstrates a simple market strategy which some of our producers utilize to help control their risk exposure.  Please contact us for more information, or for a customized hedging plan tailored to your individual risk and operational needs.

 


 

Up Market

December Futures price on 6/25/17 at 1.13
Sell a June 1.20 call for .0300 = $1200

Option Expiration 12/1/17 June futures price at 1.21
Now short a December Futures @1.21

Futures Expiration 12/29/17 June futures price at 1.24

Sold December call +$1200
Short December Futures from 1.21 on 12/1/17
Bought December Futures on Expiration at 1.24

Option Premium          +$1200
Futures Loss .03 or     –($1200)
Cash market gain .08  +$3200

Total =                         +$3200
Do Nothing =              +$4400

Result = +$1200 through Doing Nothing


 

Down Market

December Futures price on 6/25/17 at 1.13
Sell a December 1.20 call for .0300 = $1200

Option Expiration 12/1/17 December futures price at 1.10

Futures Expiration 12/29/17 December futures price at 1.08

Sold December call +$1200
Option Expired Worthless on 12/1/17

Option Premium          +$1200
Cash market loss .03   –($1200)

Total=                          -$0
Do Nothing =              -$1200

Result = +$1200 Selling the Call (versus having no hedge plan)


 

Up Market Then Down after Option Expiration

December Futures price on 6/25/17 at 1.13
Sell a December 1.20 call for .0300 = $1200

Option Expiration 12/1/17 December futures price at 1.23
Now Short a December Futures at 1.20

Futures Expiration 12/29/17 December futures price at 1.17

Sold December call +$1200
Short December Futures from 1.20 on 12/1/17
Bought December Futures on Expiration at 1.17

Option Premium          +$1200
Futures Gain .03 or     +$1200
Cash market gain .04  +$1600

Total=                          +$4000
Do Nothing =              +$1200

Result = +$4000 Selling the Call (versus no hedge plan)


 

Down Market Then Up after Option Expiration

December Futures price on 6/25/17 at 1.13
Sell a December 1.20 call for .0300 = $1200

Option Expiration 12/1/17 December futures price at 1.12

Futures Expiration 12/29/17 June futures price at 1.22

Sold December call +$1200

Option Premium          +$1200
Cash market gain .09  +$3600

Total=                          +$4800
Do Nothing =              +$3600

Result = +$1200 Selling the Call (versus no hedge plan)

 

 

 

This material has been prepared by a sales or trading employee or agent of Byrne Investment Services, Inc. and is, or is in the nature of, a solicitation. There is a significant risk of loss when trading futures and options contracts. Please read our full disclaimer.

 

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