I want to go over a common concern with futures options trading. I only recommend and teach selling options if you are covering them by buying options. Sold options that are not covered are called “naked options”. That means that if there is a move against you, and you did not also buy options, there is potential unlimited loss.

If you did cover your sold position by buying a future option as protection, you are no longer naked. Now even if a sold option is covered some still feel nervous if an option they sold is exercised into a futures contract. The buyer of an option has the right at any time to exercise their option. Let’s assume you sold a call option to someone. They exercise the option and now they are long a futures. That means you are short the futures. Should you be concerned?

Two things to consider:

You have unlimited loss potential whether you are selling a futures option or long or short a futures contract. So the fact that someone exercises an option should not worry you more. Either way, there is unlimited loss potential. But you always want to cover the position. So either way, now that it is covered, you do not have unlimited loss potential.

The second thing is that you should be happy if the seller exercises the option if there is still some time value left. When they do this, they are giving up on some of the time value. So if there is $100 time value left and the buyer exercises the option, he gives up that time value when he gets the futures. So either way, don't worry if you are protected.

If you only sell uncovered or naked options because you do not want to spend the money to buy options as protection, you might want to re think your strategy. Find cheap options to cover your sold options instead of being naked.

Commodity trading and futures option trading is best done with the help of technical analysis. Technical analysis shows a trader the direction; he should take while dealing with commodities. Whether one should buy or sell is best determined with the help of Technical Analysis. A good trading system will always incorporate methods used in TA within itself.

Technical Analysis Defined

The process of determining the condition of a commodity (based on the historic price) with the help of charting is called Technical Analysis. It combines probability mathematics and statistical information to determine the future price movement of a commodity with probability on your side. For example, if someone were to walk up to a door, and you were told to guess which direction they would go – left or right, whatever you chose, it would be speculation. On the other hand, if they went left, and you followed them, that would be called trend following. Similarly, if a commodity future moves in a direction and you use TA to guide you, you can buy it after it shows a move into a certain direction, and a trend has been confirmed.

Uses Of Technical Analysis

There are many ways TA helps traders in trading  futures options and commodities. The primary principle in TA is to have the ability to follow trends. To be able to do this, one has to be able to catch it early enough. So, you can buy into a commodity if you can confirm that it is in an uptrend. The key point to remember is that TA assumes that price discounts everything.

All movements of market participants are reflected in the price of any commodity at any given point in time. The idea is to buy low and sell high, or vice versa. This sounds simple in theory, but is difficult enough in real life. Imagine knowing that the probability of a commodity will breakout on the upside, but also that it is only a probability, and not a surety.

How Do We Use Technical Analysis?

TA has many different theories. These include common theories and indicators such as moving averages, Fibonacci series, oscillators, Gann Trading theory, Elliot wave theory, and the age-old Candlestick theory from Japan. Many users tend to combine one or more of these theories to get better accuracy in determining the trend more correctly in their favor. One has to remember that probability must to be on our side.

The risk to reward ratio should always be in our favor. A lot of people use TA to help them establish a trend, get the point of a breakout and look for a point to buy or sell a commodity. They also use it to determine their stop-loss, and possible target price. This is an advantage that TA has over any other form of analysis. Being mathematical in nature, it gives you exact figures as to what levels you need to enter and exit a commodity.

Technical Analysis is a powerful tool that needs to be executed with care and discipline. It provides the right foundation you need to determine the price trend of a commodity with more accuracy.

There are many ways of trading in the futures commodity markets. One way is to trade options on commodities. There are many strategies you can use in trading futures options. You can just buy an option or just sell an option. You can also put on what is called a spread using options. Spread options are when you buy and/or sell more than one option at a time in the same order.

You can buy 2 options, sell 2 options or buy one option and sell another option. The options you buy have to be in a different strike price to be considered a spread. If you just purchased 2 of the same options, that would not be a spread. The 2 options would have to be 2 different future option contracts. Let’s look at corn. These are not current prices, just an example. If I purchased 2 $3.00 corn options, that would not be a spread. If I purchased one $3.00 corn option and sold one $3.10 corn option, that would be a spread. I would put this trade on in one order.

Not all spreads have to be in the same contract month or even the same market. When putting on a spread in different months, you could put in an order to buy one option in one month and sell another option in another month at a certain price. These are called calendar spreads as they involve different months.

Now when putting on a spread, you will either have money coming into your account or going out. If your purchased options cost more than your sold options, you would state that you are putting it on for a debit. If you are taking in more with the sold options than you are paying with the purchased options, you are putting the spread on for a credit. I will discuss other types of options strategy using spreads in another article.

Futures contracts as they relate to finance is a simple contract devised to allow someone to ultimately purchase or sell specific commodities that will be delivered at some future time. Generally there are certain dates and time frames which must be met in order to be a valid contract.

These types of transactions are never offered on the usual stock market but you would find them on what is commonly known as the futures exchange. They are not considered to be securities in the strictest sense of the word as stocks or bonds may be. They are a type of derivative.A futures options contract or a commodity option is a derivative as well.

The actual prices associated with the various commodities vary according to the supply and demand. If the pork belly crop is not good this year the prices will likely be high while there is an over abundance of coco would result in a lower than normal price. The future date is known as the delivery date while the daily bid on the exchange would be the settlement price.

In a nutshell in futures trading, what a contract states is that the holder can take delivery of the commodity at some future date however the futures must be complied with by the settlement date. At the settlement date the seller will deliver the asset to the buyer whether it is coco or pork bellies or whatever. In order to fulfill your obligation prior to the established settlement date you must offset your position by selling if you purchased the futures or buy back if you had a previous short position which ultimately allows you to balance everything out.

An interesting side note here is that if you purchased a futures contract and do nothing what so ever and the settlement date arrives you could end up with a yard full of assets that you really did not want. Unlike stocks and bonds we are talking real time products here.

Commodities are an important part of everyday life whether related to food, metals or energy. They can also be a great way for an investor to diversify beyond the tradition of stocks and bonds or to profit from price movements. There are a number of ways to invest in commodities, some of which have been made easy for the average investor. A futures contract or future options provides a popular way to invest in commodities.

A futures contract is an agreement to buy or sell a specific quantity of a commodity at a specified price in the future. Such contracts are available with commodities such as crude oil, gold and natural gas. They can also be bought for agricultural products such as cattle or corn.

Many who participate in the futures markets are commercial or institutional users of the commodities they actually trade. They may then use these markets to take a position that reduces the risk of financial loss when a price change occurs. Individuals who choose to participate are speculators hoping to profit from the price of the futures contract. They usually choose to close out their positions before the contract is due, thus not accepting actual delivery of the particular commodity.

If you decide to invest in a futures contract or future option you will need to open a brokerage account if your broker does not trade futures. You will also be required to fill out a form that acknowledges your understanding of the risks associated with this type of trading. The contract for each commodity requires a minimum deposit that varies with each specific product. This deposit amount will depend on the broker and the value of your account will either increase or decrease with the contract value. If the contract value decreases, you will be subject to a margin call and will then need to place more money in your account in order to keep the position open. Because of the huge amounts of leverage, you can receive huge returns or suffer large losses just from small movements in price. This means a futures account can literally double or be wiped out in only minutes.

Most futures contracts also have options that are associated with them. These futures options still let you invest in the futures contract by, but limit any loss you may incur to the option’s cost. Since options are derivatives, they usually do not move point-for-point with the futures contract.

There are, however, advantages to buying futures contracts. One is that the leverage they provide allows for large profits for those who are on the right side of the trade. Another is minimum-deposit accounts control full size contracts an individual investor ordinarily would not be able to afford.

Before investing in a futures contract make sure you understand the risk involved. Know, too, that there are advantages like those mentioned above that can make these contracts very profitable for you.

An important component of commodity futures trading is using charts and charting software. We get an interactive and visual representation of the price action data on a chart. This is very helpful in giving us the right signals when we want to take a trade.

How To Use Charts

A good trader will always use professional charting software that give him the right tools, and are comprehensive in nature. Good software will give the discerning trader the variety of tools he requires for his daily trades. Some of the different types of charts that can be viewed by such software are candlesticks, bar charts, and open-high-low-close charts. Traders can (and often do) view these charts in many different time frames starting from as low as one minute to monthly and yearly as well.

In fact, most traders work with at least two or more timeframes when they are trading to get confirmation of a trade in more than one time frame at a time. They put in the indicators they want to use and check the filter to see what commodities result as trade possibilities. The biggest additional benefit of having charting software is to be able to incorporate your own custom indicators and oscillators that you can use in different time frames. Some software’s even allow you to build your own indicators by programming them into the software yourself. The flexibility is what makes having software for charting so useful and worthwhile.

Advantages Of Using Them

For commodity future traders and futures options traders, charts are exceptionally useful in determining the trades that they will take. Having technical filters help you short-list the commodities which are currently showing a buy or a sell. You can tell much more easily whether a commodity is trending or not. Simple tools such as it moving above a moving average with very large volume expansion can give you the signal you are looking for to buy into a commodity. It also helps you determine what commodities are concluding their trends so you can sell them if you have any lots. The data is easily available and many vendors add it at little or no cost as a package deal when you decide to open a broking or trading account with them.

Essentially, charts tell you when a commodity is trending for you to enter into a commodity trade or commodity option trade, give you stop levels, help you decide on a target for your trade, and give you an indication when the trend may be ending. Now, if these are not things worth having, then what are? Some comprehensive and popular software includes names like Metastock, Tradestation, and Advanced Get.

A visual aid is always easier to understand, and offers you the scope of being much more detailed in your study of any commodity. That is why charts are now the industry standard, and will make things much more easy for you if you too use them. At the end, you have to remember that these tools can only help you indicate a buy or a sell, but it is you who has to take the call and decide what you want to do.