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Locking in Profit by Purchasing Options

June 7, 2011 by Drew Wilkins| Tips & Strategies

One of the most common things you’ll hear a futures trader say is, “Make sure you lock in profits with stops!”  One thing some traders don’t realize is that you can lock in profits with options as opposed to using just a stop loss order.  This article will focus on how locking in profits is done and when it may be a useful strategy.

How It Works

The most common way to lock in profits using options is done by purchasing an out-of-the-money call or put wherever you’d like to lock in profit.  An option gives you the right to buy or sell a futures contract from a specified price.  If you are long a market, you would want to purchase a put to lock in profit.  If you are short a market, you would want to purchase a call to lock in profit.  The amount of profit you will lock in is determined by the strike price plus the premium paid.

When This Strategy is Appropriate

A trader can use options to lock in profits any time they would like to.  However, they can be especially useful when a trader is expecting high volatility in the market they are trading.  Let’s say you are in a long futures position in the corn market and a crop progress report is due out in a few days.  You think there may be a short term correction in the market before it continues on its bullish trend.  You can simply purchase a put at whatever point you would like to lock in profits (remember to keep premium paid in consideration here).  If the market report comes out bearish and the market doesn’t continue in the bullish trend, simply exercise the put option to offset your long futures position at the strike price purchased.

Example

Frank is a speculator who is currently trading the corn market.  He has been long July 2011 corn from a price of $6.72.  July corn last traded at $7.50 and Frank would like to lock in some profit.  Since he is long the corn market, he knows he will need to purchase a put to lock in profits using options.  Frank would like to lock in around $2000 of his profits.  A $7.30 July corn put option is currently trading at 19 cents premium.  Each cent is equal to $50 in the corn futures and options market.  Knowing this, Frank decides to purchase the $7.30 put to lock in profits.

$7.30 (Put option purchased)
-0.19 (Cost of put option)
$7.11 (Price locked in after difference in strike and premium paid)
-6.72 (Initial long position)
$0.39 of profit locked in, or $1,950 (39 * 50)

Summary

Using options to lock in profits is a simple alternative to using futures positions.  They can give you the ability to ride out volatility swings with a defined exit point without having your position offset like you might with a futures stop loss.

Option Strategies Course

Filed Under: Tips & Strategies

About Drew Wilkins

Drew received his B.S. in Agricultural Business from the University of Arkansas. Growing up in Arkansas, he was always familiar with agriculture. However, it was a Futures and Options class in college that sparked his interest in making a career out of the markets. “Learning more about the overall marketplace was fascinating. From hedging to speculating, the futures markets offer a risk management and investment avenue not found anywhere else.”

Since joining Daniels Trading, Drew has helped his many clients navigate the markets. He prides himself in being diverse in his execution abilities. Whether you are looking to enter a multi-leg option spread or enter a market order online, he can help you get it done. Drew knows that not every client is the same. One of the aspects he enjoys most is working with new clients and helping them formulate a plan on how they want to approach the market.

When out of the office, Drew enjoys playing golf, flag football and cheering for the Razorbacks.

Risk Disclosure

WHEN INVESTING IN THE PURCHASING OF OPTIONS, YOU MAY LOSE ALL OF THE MONEY YOU INVESTED.

WHEN SELLING OPTIONS, YOU MAY LOSE MORE THAN THE FUNDS YOU INVESTED.

STOP ORDERS DO NOT NECESSARILY LIMIT YOUR LOSS TO THE STOP PRICE BECAUSE STOP ORDERS, IF THE PRICE IS HIT, BECOME MARKET ORDERS AND, DEPENDING ON MARKET CONDITIONS, THE ACTUAL FILL PRICE CAN BE DIFFERENT FROM THE STOP PRICE. IF A MARKET REACHED ITS DAILY PRICE FLUCTUATION LIMIT, A "LIMIT MOVE", IT MAY BE IMPOSSIBLE TO EXECUTE A STOP LOSS ORDER.

STRATEGIES USING COMBINATIONS OF POSITIONS, SUCH AS SPREAD AND STRADDLE POSITIONS MAY BE AS RISKY AS TAKING A SIMPLE LONG OR SHORT POSITION.

The StoneX Group Inc. group of companies provides financial services worldwide through its subsidiaries, including physical commodities, securities, exchange-traded and over-the-counter derivatives, risk management, global payments and foreign exchange products in accordance with applicable law in the jurisdictions where services are provided. References to over-the-counter (“OTC”) products or swaps are made on behalf of StoneX Markets LLC (“SXM”), a member of the National Futures Association (“NFA”) and provisionally registered with the U.S. Commodity Futures Trading Commission (“CFTC”) as a swap dealer. SXM’s products are designed only for individuals or firms who qualify under CFTC rules as an ‘Eligible Contract Participant’ (“ECP”) and who have been accepted as customers of SXM. StoneX Financial Inc. (“SFI”) is a member of FINRA/NFA/SIPC and registered with the MSRB. SFI does business as Daniels Trading/Top Third/Futures Online. SFI is registered with the U.S. Securities and Exchange Commission (“SEC”) as a Broker-Dealer and with the CFTC as a Futures Commission Merchant and Commodity Trading Adviser. References to securities trading are made on behalf of the BD Division of SFI and are intended only for an audience of institutional clients as defined by FINRA Rule 4512(c). References to exchange-traded futures and options are made on behalf of the FCM Division of SFI.

Trading swaps and over-the-counter derivatives, exchange-traded derivatives and options and securities involves substantial risk and is not suitable for all investors. The information herein is not a recommendation to trade nor investment research or an offer to buy or sell any derivative or security. It does not take into account your particular investment objectives, financial situation or needs and does not create a binding obligation on any of the StoneX group of companies to enter into any transaction with you. You are advised to perform an independent investigation of any transaction to determine whether any transaction is suitable for you. No part of this material may be copied, photocopied or duplicated in any form by any means or redistributed without the prior written consent of StoneX Group Inc.

© 2023 StoneX Group Inc. All Rights Reserved

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Risk Disclosure

The StoneX Group Inc. group of companies provides financial services worldwide through its subsidiaries, including physical commodities, securities, exchange-traded and over-the-counter derivatives, risk management, global payments and foreign exchange products in accordance with applicable law in the jurisdictions where services are provided. References to over-the-counter (“OTC”) products or swaps are made on behalf of StoneX Markets LLC (“SXM”), a member of the National Futures Association (“NFA”) and provisionally registered with the U.S. Commodity Futures Trading Commission (“CFTC”) as a swap dealer. SXM’s products are designed only for individuals or firms who qualify under CFTC rules as an ‘Eligible Contract Participant’ (“ECP”) and who have been accepted as customers of SXM. StoneX Financial Inc. (“SFI”) is a member of FINRA/NFA/SIPC and registered with the MSRB. SFI does business as Daniels Trading/Top Third/Futures Online. SFI is registered with the U.S. Securities and Exchange Commission (“SEC”) as a Broker-Dealer and with the CFTC as a Futures Commission Merchant and Commodity Trading Adviser. References to securities trading are made on behalf of the BD Division of SFI and are intended only for an audience of institutional clients as defined by FINRA Rule 4512(c). References to exchange-traded futures and options are made on behalf of the FCM Division of SFI.

Trading swaps and over-the-counter derivatives, exchange-traded derivatives and options and securities involves substantial risk and is not suitable for all investors. The information herein is not a recommendation to trade nor investment research or an offer to buy or sell any derivative or security. It does not take into account your particular investment objectives, financial situation or needs and does not create a binding obligation on any of the StoneX group of companies to enter into any transaction with you. You are advised to perform an independent investigation of any transaction to determine whether any transaction is suitable for you. No part of this material may be copied, photocopied or duplicated in any form by any means or redistributed without the prior written consent of StoneX Group Inc.

© 2023 StoneX Group Inc. All Rights Reserved

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