Minimum/ Maximum Price Contract
This contract establishes a cash sale for a known quality and quantity of any given commodity for a nearby
or deferred shipment period. In addition to the cash sale, a minimum price and a maximum price is established
through the use of call options.
Advantages
Disadvantages
•You can set a higher minimum price than the minimum price
contract due to the lower cost of entry versus the minimum
price contract with like premiums.
•You have the ability to capture increases in the future price
level via increases in the net option premium.
•You have the flexibility to set the final cash price at any time.
•You are subject to service fees and the net price to purchase the
Min/Max option which is determined by which strike prices
you pick, price volatility, and time value etc.
•The futures prices may go down resulting in a loss of the net
premium paid.
•The upside potential price of this contract is limited to the
maximum price.
Example
Scenario #1
using an existing forward cash sale
February 1st - Markets have traded higher
On October 1st you decide that you would like to establish the
Min/Max contract alternative to an existing cash sale that was
made for January delivery. You feel the market has good upside
potential and want to have a lower cost entering into the contract
versus the Minimum Price contract.
October 1st Market:
January Cash Sale $5.70
March futures
$5.70
March 6.00 call option premium
- $0.40
March 7.00 call option premium
+$0.20
Service fee (for this example)
- $0.05
Minimum Cash Price
$5.45
Maximum Cash Price*
$6.45
March futures
$6.50
March 6.00 call option premium
+$0.50
March 7.00 call option premium
- $0.03
(sale)
(purchase)
$0.47
New Cash Price
$5.45 + $0.47 = $5.92
This increase in the call option signifies that the March futures
contract has moved higher. The net price for the Min/Max contract
on this day is $5.92 (the net difference in premiums of the calls
plus the minimum price).
(purchase)
(sale)
Scenario #2
*The maximum cash price is established by taking the cash price
and adding the difference in the option’s strike prices minus the net
difference in options premiums and the service fee
($5.70 + 1.00 - 0.20 - 0.05 = $6.45)
February 1st - Markets have traded lower
March futures
$5.60
March 6.00 call option premium
+$0.25
March 7.00 call option premium
- $0.12
(sale)
(purchase)
$0.13
New Cash Price
$5.45 + $0.13 = $5.58
This decrease in the call option signifies that the March futures
contract has moved lower. The net price for the Min/Max contract
on this day is $5.58 (the net difference in premiums of the calls
plus the minimum price).
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