Commodity options are not like your traditional options on stocks and indices. There is a slight difference and hence It is necessary to understand the nuances of the product. Here is what you need to know about commodity options…

· SEBI has laid down strict guidelines for inclusion of commodities in options. Exchanges can only offer options on commodities where the underlying future is traded on that exchange. The commodity should be among the top-5 commodities in terms of volumes and value of the commodity contract in last 12 months.

· The average daily turnover of the commodity must be at least Rs.200 crore per day in case of agri commodities and Rs.1000 crore per day in case of non-agri commodities and the average of the last 12 months trade will be considered for this purpose.

· SEBI permitted the exchanges to offer commodity options on 1 commodity and then to progressively increase it. The permission to increase the number of options is based on the experience in terms of execution and risk management.

· Each commodity will have 3 option contracts at the very minimum of which 1 will be out of the money (OTM), 1 will be at the money (ATM) and 1 will be in the money (ITM). All commodity options to begin with will only be European styled options. A European option can only be exercised / devolved on the expiry date.

· There are no restrictions on reversing commodity option position in the market during trading hours. If you are long on call option, you can reverse the position by selling the call option. If you sold a put option, you can reverse the position by buying a put option. This will be subject to liquidity in the market.

· The logic of margining commodity options is broadly similar to equity options. While the buyer of the option will only pay the premium margin, the seller of the option will be required to pay the SPAN Margin plus ELM as well as the mark-to-market margin.

· Now comes the interesting part. All exercised commodity options positions will devolve into futures of the same commodity, with the options strike price as the theoretical futures price.

· If you are long on call option or short on put option, then when exercised it will devolve into a long futures position on the same commodity. If you are long on put option or short on call option, then when exercised it will devolve into a short futures position. This creates a problem of option symmetry since the outlook of the trader buying call and selling put is not the same.