Corn – Capitalizing on low volatility

February 11, 2010

Volatility (Vega) in the grains complex is extremely low at the time of this writing.  We can capitalize on this a number of ways, using option spreads.

In this article, I’d like to discuss the strangle.  This strategy exploits low volatility conditions allows us to capitalize on a potential move in the market, up or down (capitalize from increased volatility, or Vega).

In the provided example, we use call options and use strike prices that are 35 cents away from the may corn futures contract.  An option strangle spread involves purchasing two options, one option is a put option, the other is a call option.  Each option is slightly out of the money.

We will purchase an April 410 Call option and an April 340 put option.  Both options are linked to the May corn futures contract.

Because option prices are so low, due to low volatility in the underlying futures market, we can define a very reasonable worst-case loss scenario.  This would simply be the net cost of buying the call and put options.

An important concept of which you should be keenly aware, is that when volatility in the markets increases, the prices of options (both put and call options) also increase.

The next two images show the dramatic impact that volatility (Vega) has on our strategy.  The first image is shown below and anticipates little to no change in volatility.  We chose to depict the positions profit and loss on the eleventh day of the trade:  Corn Option Strangle. Click to view.

The second image  factors in a 6% increase in volatility.  You can easily see how volatility (Vega) will help our position.  Again, we are showing the profit and loss curve on the eleventh day of this option strangle.  Here is the Corn Option Strangle that factors in a 6% increase in implied volatility.  Click to view.

In summary, for a very inexpensive entry price, when can capitalize on low option volatility – our risk is completed limited and our reward is absolutely unlimited.


Option Strangle Volatility remains low

Corn Option Strangle with Volatility Remaining Low

Corn Option Strangle With Expected Rising Volatility

Corn Option Strange With Expected Rising Volatility

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admin February 11, 2010 at 2:28 pm

Note – this spread does not maintain a bullish or bearish bias for Corn Futures. It represents a very good opportunity exploiting the relatively low prices in Corn options. Either an upward or downward move in Corn should return profitability with this Option Strangle (provided that we consider time decay, as way).

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