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LOGO: Journal of Cotton Science


Evaluation of Cotton Put Options as a Price Risk Management Tool

Authors: Blake K. Bennett
Pages: 39-44
Economics and Marketing

The commodity production sector has attempted to manage price risk through the use of futures and options contracts, but producers are faced with a limited amount of time to analyze factors necessary to determine the optimal time and strike price to purchase cotton put options to protect their price. The objective of this research was to develop an easily understood strategy that would save time and assist cotton producers using the December cotton options market to hedge price risk. Daily December cotton futures, option strike prices, and premium values from 1 May through its expiration from 1985 through 2000 were analyzed for this study. Since futures and options contracts are traded Monday through Friday not including holidays, like dates could not be compared across years. Therefore, a standardized method was developed so comparisons could be made for like time periods across years. This standardized method involved the division of each month for each contract into three time classifications. Each contract.s average premium value for at-the-money put options associated with each time period was analyzed in relation to the corresponding average price associated with the first ten days of November. Results of this study indicated that put options purchased four cents in-the-money between 21 and 31 May provided the highest net price. Specifically, net price was increased by $0.0167 per pound on average over the study period when using these criteria.