Most new commodity traders focus on buying options, but the less-known option strategy of
option selling may be a better way to trade
futures options. Two commodity futures traders, James Cordier and Michael Gross, specialize in option selling strategies and explain many of their trading methodology in
The Complete Guide To Selling Options.
What Is An Option Selling Strategy?
Option selling involves selling options before you actually buy them. It may sound strange to a new commodity trader, but you are simply just taking the other side of the bet. You are creating or “writing” an option and selling it to a buyer of the very same option. Think of it as a bookie taking a bet from a gambler. You do not have to own an option before you sell it.
An example of selling an option would be something like this. You sell a $900 gold call for the going market price at $8. Since a gold contract trades in 100 ounces, you would collect $800 from the buyer. That money is put into your account and the value of it will fluctuate with the underlying futures price. If gold futures are trading below $900 when the option expires, you keep the entire premium. Be aware that there is virtually unlimited risk with this strategy and you have to manage your risk when trading. You are also requires to put up futures margin, depending on the risk of the position.
The Cordier and Gross Option Selling Strategy
Cordier and Gross give a good explanation of their option selling strategies in
The Complete Guide To Selling Options. They tend to use
fundamental analysis to find commodities that are trending well or have gotten to a price where the fundamentals don’t warrant futures prices moving much farther.
Once they have done their fundamental analysis and chosen a market, they tend to sell far out-of-the-money options with several months of option premium remaining. This gives them a good cushion against the normal volatility in the commodity markets. The good part of this strategy is that the market has to make a big move against you in a relatively short period of time for you to ultimately lose money.
Controlling Risk When Selling Options
This may be the most important aspect when selling options. There is virtually unlimited risk when you sell options, so you can’t let the inevitable bad trade severely damage your trading account.
The Complete Guide To Selling Options devotes an entire chapter to risk management with several different strategies to limit risk when selling futures options.
Typically, when you implement an option selling strategy you will make money on most of your options as the time value erodes on them. This is provided that you make well researched trading decisions. This is not a foolproof strategy, so you have to be prepared when a position starts to move significantly against you. Many traders who use this strategy do well for a period of time and then get nailed on the one market that makes a parabolic move. Make sure you study this chapter carefully.
The Viability of Selling Options
I like selling options when I trade commodities and futures. I feel like it does help put the odds in your favor and your timing doesn’t have to be perfect. Cordier and Gross do an excellent job explaining this option strategy in The Complete Guide To Selling Options. I also like that they implement these strategies when they are managing money for their clients. They also go out of their way to explain this strategy without a lot of jargon and egotism that you might often find in commodity trading books.
