I think I jumped the gun on this one. Option sellers like when there is large move in a commodity and the option premiums on that side go way up. With cotton moving up to 96 cents, I finally sold some $1.20 call options. However, cotton has since skyrocketed to $1.02, and the premium on my $1.20 options has risen 2.5x. My general rule of thumb is to exit a trade at a loss if the premium has increased by 3x.
My mistake in this trade was going against a strong rally AND against the fundamentals -- that is, ignoring the fact that even though cotton prices are nearing all-time highs, they deserve to be at this level and were poised to go higher. I even knew that cotton was trading at $1.13 in some places in China (and apparently at $1.40, as I've now read). It seems there is a bit of a short squeeze going on now too as traders on the short side are running out of margin. There is apparently not much resistance until you get to the $1.17 level (the all-time high). Still, most people seem to be saying that cotton is in a bit of a bubble now, and only panic buying will cause it to move higher. But who knows how much longer the panic buying will continue. If the current price rises much higher, I can't justify the risk and will have to exit the trade at a large loss.
Orange Juice:
Orange juice is experiencing a pretty big rise too - it moved its 1-day limit of 10 cents today, to close around $1.60, all on fears of a tropical storm forming that could hit Florida and damage crops. I'm looking to sell calls in this situation, of course :) This situation is quite different than cotton though. Florida's orange harvest is expected to be on par with last year's, and demand for orange juice hasn't been as low as it is now since the late 1990's. So the only thing driving the rally is the fear of a storm damaging crops.
So when selling calls here, it's basically a gamble on the storm -- in most cases you'll win (first it has to actually form, then it has to hit Florida, then it actually has to do some damage), but you have to be prepared for the worst. The highest price orange juice futures have ever traded is $2.09, and I'm looking to sell calls around $2.40. So I think this trade would be much safer than the cotton one.
Current trades:
My other trades are going perfectly:
- I exited my $100 oil calls after making 75% of my potential profit (the usual point at which I exit a trade). This was a perfect example of trading the fundamentals. The economy is still weak and there is a huge oversupply of oil. People were overly optimistic about economic recovery and I couldn't believe oil kept rising to close to $80.
- I have a $1100/$1500 gold strangle (sell $1100 puts, sell $1500 calls). Because I've always expected gold to keep rising, I only sell calls at very high levels ($250-$300 above current price). This has served me well, as gold has risen about $100 since my $1500 call trade, now at a price of almost $1300, and my $1500 calls are still quite safe. I expect to exit this trade in a week or two.
- I have a 0.87/1.025 CAD strangle. The 1.025 call trade was a bad one -- way too close to the money. I got impatient as I really wanted to be in a strangle, and didn't wait long enough for a good rally in the CAD to be able to get good premiums at a higher level. The CAD can move 5 cents in a day so I like to trade around 10 cents away. If the CAD stays at current levels, I'll be exiting the 0.87 puts later this week as I should reach about 75% of my potential profit.
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