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Clarkson Securities Limited

Home / FFA Options

FFA options

Background / History

Options were introduced in 1997 when liquidity was improving on dry cargo FFAs. They started with large European shipowners selling calls on forward positions on delivery of newbuildings.

Fundamentals of options

An option gives the buyer the right but not the obligation to buy (or alternativly sell) the underlying market. The buyer of the option pays a premium to the seller for this right. His liabilities stop there. The seller of the option receives the premium and potentially has an unlimited exposure to the vagaries of the market.

Why buy an option?

Buying an option can be compared to buying insurance. The maximum loss that can occur is quantified by the premium that is paid.

Why sell an option?

Options prices are quoted at a level that option sellers believe compensates them for the risk of selling options. Sellers exchange an element of risk for a premium (the amount of money paid to the seller). Option sellers retain the premium and some specific obligations. That may be sufficient reason, but if they already own a position (for example shipowners long of tonnage), their risk is further offset by the underlying asset.

Types of option

Call option

A Call option gives the buyer the right but not the obligation to buy freight. (FFAs)
Call option buyers gain from higher than anticipated freight rates.
Call option sellers gain from stable or declining freight rates compared with expectations.

Put option

A Put option gives the buyer the right but not the obligation to sell freight.(FFAs)
Put option buyers gain from lower than anticipated freight rates.
Put option sellers anticipate increasing or stable freight rates.
Notes

All options have finite lives.
Most FFA options are European-averaged (or Asian) and are automatically settled at the end of the contract. No prior notification is required.
An option is finally either settled in favour of the buyer or abandoned (with the seller retaining the premium).

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