Options on Futures - Low Margins and High Yields
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Trading Commodity Options can be highly profitable. Options on Stocks is great but options on commodities is wonderful. Options give lot of flexibility and takes Risk management to a whole new level. Commodity option strategies can be traded with much less margin compare to index/stock options. Commodity options can be used for both Income and speculative purposes. SPAN margin rules allow less capital usage for the trading commodity options. E-mini contracts, electronic trading platforms, deep discount commissions and lot of brokers with online trading platforms have made "Commodity option trading" considerable for complex options strategies. Commodity option trading is similar to trading options on stocks. Biggest difference between stock options and Commodity options is multiples, $1 option premium on stocks represents a value of $100 as each contract is for 100 shares of stock, making the multiples as 100. It is different with commodity options, each underlying commodity has it's own multiple. E-mini S&P has multiple of 50, i.e., $1 option premium on E-mini S&P is worth $50. Crude oil has multiple of 1000 and Natural Gas has 10,000 and so on. |
Advantages with Commodity Options:
Low Margins and High Yields
- Most of commodity options use SPAN margin. SPAN margin is calculated based on all positions of a portfolio. This gives lot of advantages. For example a trade using a collar strategy will use much lower margin compare to similar trade using stocks or indices directly. Way out of the money spreads in expiration week will cost much less in margins as compared to stock option margins. Lower margins translates to better usage of capital and with higher yields.
Lower Commissions
- With so many commodity brokerage houses offering online trading and offering discount commission trades, Cost of trading similar strategy using ETF's or indices can be much higher overall compared to doing same on futures. Commission costs per trade per contract are normally higher with futures, however overall costs for carrying similar trade may be lower. Consider a trade consisting one call option on Nasdaq 100 future contract may cost approximately $20.00 for round turn. Similar comparable trade is same as buying and selling 40 call options on QQQQ's involving a commission cost of $60.00 or more. Commission costs $20 vs $60 , which one has lower overall commission cost? No doubt, trade with commodity option. This will magnify in trades using multi-leg strategies like butterflies , double diagonals and condors.
Low Slippage
- Slippage per contract per trade seems big with commodity options, but a trade involving similar dollar size expose will result less slippage in commodity option trades in most cases. It might be much less with electronically traded commodity options like Gold options, e-mini contracts.
Better Hedging
- Most of strategies with commodity options require some sort of hedging or adjustment during the life of a trade. General technique for hedging is going long or short of underlying to protect if underlying goes against the trade. Futures and e-mini contracts provide best way to hedge with minimal capital requirement.
No Additional margin trades
- Careful examination of existing trades might provide additional trade opportunities without additional margin requirement, often these additional will reduce overall margin required for the trade. Here is a trade example:
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Trade: Call Credit Spread Call credit spread on S& P future options expiring in 60 days. S&P future is trading at 1530. Credit spread with 4 calls shorting 1615 call and long 1620 calls requires a margin of $3275. Max. profit on this trade is $2460 and max loss is $7580 |
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Additional trade : Making it Condor Adding Put credit spread on the same underlying and same expiry month. Put credit spread involves shorting 4 puts of strike 1475 and long on 1460 puts. This additional trade brings a credit of approximately $1760 and reduces over-all trade margin to $2,280. Max profit on the trade is now $4220 and max loss is $5820.00 |
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** data provided using OptionVue software
** trades in the example above includes commission costs of $5.00 per contract.
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