hedging question | TigerDroppings.com

Posted byMessage
ClydeFrog
Oklahoma Fan
Kansas
Member since Jul 2012
2995 posts
 Online 

hedging question


What's the difference between selling a forward and buying puts? Let's say in the context of a wheat farmer who wants to hedge against potential losses. These two seem similar to me.






Back to top
Share:
foshizzle
LSU Fan
Washington DC metro
Member since Mar 2008
29859 posts

re: hedging question


Selling a forward means you agree to sell the wheat at a specific price in the future. Unlike the option, there is no question of whether the contract will be exercised. A payoff graph is here:



Buying a put means you have the right (but not the obligation) to sell the wheat at the strike price at some time in the future. The payoff graph is here:



Notice that when you buy the put, you do not have to actually sell at the negotiated price if the market moves against you. Of course, you pay for that privilege.

Another significant difference is that forward contracts tend to be specifically negotiated, whereas options are often standard contracts.






Back to top
ClydeFrog
Oklahoma Fan
Kansas
Member since Jul 2012
2995 posts
 Online 

re: hedging question


quote:

foshizzle


Thanks for the input, it's much appreciated.






Back to top
  Replies (0)


Back to top