You are a wheat farmer and you have 5,000 bushels of wheat in storage. The wheat market has moved lower since you put your wheat in storage. You don’t want to sell until after Thanksgiving. Your choices are to stay in the cash market, to place a hedge and lock your price in, or to buy a put to establish a minimum price but still be able to receive a higher price if the market rebounds and moves higher. You decide you will purchase a put.
The KCBT Wheat Dec contract is at $4.60 per bushel. The following Put options are available:
Strike Premium
$4.50 $.22
$4.60 $.27
$4.70 $.33
a. What is the intrinsic value and the time value for each option?
b. If your expected basis is $.45 under the Dec Wheat futures. What is your expected minimum price with each option?
c. The market drops between now and Thanksgiving. You sell your wheat for $3.95 per bushel and the Dec Wheat futures are at $4.45 per bushel. If you had purchased the $4.60 put in September, what would be your actual net price once you sold your wheat and you had sold your put (assume the put has 0 time value)?