Commodities Futures Passport Program

June futures are currently selling at 75.00 cents per pound. June puts with a strike price of 75.00 cents (at-the-money) have a current premium (market price) of 1.70 cents per pound. Purchasing June live cattle puts with a strike price of 75.00 cents would establish a minimum price of 72.30 cents per pound (the strike price of 75.00 cents plus an expected basis of -1.00 cent minus the premium of 1.70 cents).

The minimum price would be established by purchasing a sufficient number of puts to protect 200 head (6 put options at 40,000 each, or 240,000 pounds). The cost of the puts is the current premium of 1.70 cents per pound times 240,000 pounds ($4,080.00).

Remember that buying a June live cattle put with a strike price of 75.00 gives you the right, but not the obligation, to a short futures position at 75.00 cents. Essentially, you have the right to establish a hedge at 75.00 cents and you have paid 1.70 cents per pound for that right.

The following examples summarize what happens to the optionbased marketing strategy when the cash price decreases (I) or increases (J). In examples I and J, the basis is exactly as expected (1.00 cent under).

Changes in the basis will impact the option-based outcomes in exactly the same way basis changes influence the short hedges. That is, a strengthening basis would increase the realized price by the amount of the increase in the basis.

A weakening basis would reduce the realized price by the amount of the decrease in the basis.

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