Selling (Going Short) Rubber Futures to Profit from a Fall in Rubber Prices

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Contents

Selling (Going Short) Rubber Futures to Profit from a Fall in Rubber Prices

If you are bearish on rubber, you can profit from a fall in rubber price by taking up a short position in the rubber futures market. You can do so by selling (shorting) one or more rubber futures contracts at a futures exchange.

Example: Short Rubber Futures Trade

You decide to go short one near-month TOCOM Rubber Futures contract at the price of JPY 133.00/kg. Since each Rubber futures contract represents 5000 kilograms of rubber, the value of the contract is JPY 665,000. To enter the short futures position, you have to put up an initial margin of JPY 75,000.

A week later, the price of rubber falls and correspondingly, the price of TOCOM Rubber futures drops to JPY 119.70 per kilogram. Each contract is now worth only JPY 598,500. So by closing out your futures position now, you can exit your short position in Rubber Futures with a profit of JPY 66,500.

Short Rubber Futures Strategy: Sell HIGH, Buy LOW
SELL 5000 kilograms of rubber at JPY 133.00/kg JPY 665,000
BUY 5000 kilograms of rubber at JPY 119.70/kg JPY 598,500
Profit JPY 66,500
Investment (Initial Margin) JPY 75,000
Return on Investment 89%

Margin Requirements & Leverage

In the examples shown above, although rubber prices have moved by only 10%, the ROI generated is 0%. This leverage is made possible by the relatively low margin (approximately 11%) required to control a large amount of rubber represented by each contract.

Leverage is a double edged weapon. The above examples only depict positive scenarios whereby the market is favorable towards you. If the market turn against you, you will be required to top up your account to meet the margin requirements in order for your futures position to remain open.

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If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

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Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date. [Read on. ]

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Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

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Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

Buying (Going Long) Rubber Futures to Profit from a Rise in Rubber Prices

If you are bullish on rubber, you can profit from a rise in rubber price by taking up a long position in the rubber futures market. You can do so by buying (going long) one or more rubber futures contracts at a futures exchange.

Example: Long Rubber Futures Trade

You decide to go long one near-month TOCOM Rubber Futures contract at the price of JPY 133.00 per kilogram. Since each TOCOM Rubber Futures contract represents 5000 kilograms of rubber, the value of the futures contract is JPY 665,000. However, instead of paying the full value of the contract, you will only be required to deposit an initial margin of JPY 75,000 to open the long futures position.

Assuming that a week later, the price of rubber rises and correspondingly, the price of rubber futures jumps to JPY 146.30 per kilogram. Each contract is now worth JPY 731,500. So by selling your futures contract now, you can exit your long position in rubber futures with a profit of JPY 66,500.

Long Rubber Futures Strategy: Buy LOW, Sell HIGH
BUY 5000 kilograms of rubber at JPY 133.00/kg JPY 665,000
SELL 5000 kilograms of rubber at JPY 146.30/kg JPY 731,500
Profit JPY 66,500
Investment (Initial Margin) JPY 75,000
Return on Investment 89%

Margin Requirements & Leverage

In the examples shown above, although rubber prices have moved by only 10%, the ROI generated is 89%. This leverage is made possible by the relatively low margin (approximately 11%) required to control a large amount of rubber represented by each contract.

Leverage is a double edged weapon. The above examples only depict positive scenarios whereby the market is favorable towards you. If the market turn against you, you will be required to top up your account to meet the margin requirements in order for your futures position to remain open.

Learn More About Rubber Futures & Options Trading

You May Also Like

Continue Reading.

Buying Straddles into Earnings

Buying straddles is a great way to play earnings. Many a times, stock price gap up or down following the quarterly earnings report but often, the direction of the movement can be unpredictable. For instance, a sell off can occur even though the earnings report is good if investors had expected great results. [Read on. ]

Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount. [Read on. ]

What are Binary Options and How to Trade Them?

Also known as digital options, binary options belong to a special class of exotic options in which the option trader speculate purely on the direction of the underlying within a relatively short period of time. [Read on. ]

Investing in Growth Stocks using LEAPS® options

If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

Effect of Dividends on Option Pricing

Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date. [Read on. ]

Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa. [Read on. ]

Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

What’s behind the fall in rubber prices

Lower global demand, higher domestic production put the brake on rates

Unlike many commodities that have been heating up in recent times, prices of domestic natural rubber (RSS-4 variety) have been on a slide. The latest data available from the Rubber Board shows that prices have cooled down to about ₹124 a kg as of February 2020, from ₹159 a year ago.

The fall is intriguing, as domestic demand has been reasonably strong during this period. As per the latest available data, a total of 8,14,060 tonnes was consumed during April-December 2020, up 4.9 per cent from the same period a year ago.

Considering that about 65 per cent of the consumption is by the auto industry for the manufacture of tyres, this is corroborated by the pick-up in demand seen in the auto sector, after being intially pulled down by the GST transition.

Overall vehicle sales grew 11.28 per cent in April-December 2020, and has seen further pick-up since then.

One reason for the cooling off of domestic prices could be the fall in international prices in the past one year. The global price is currently ₹110 a kg, compared with ₹184 in February 2020. For most of this period, the international price has stayed well below the domestic price, with a difference of ₹6-27.

False alarm

Towards the end of 2020-17, rubber prices did look like it would continue its up-trend as it faced some supply tightness due to repeated floods in Thailand, firming up of US dollar against Asian currencies, and increased demand from China. But this was not to be.

Lower demand from the US and the UK dampened prices. New car sales in the US dropped 1.8 per cent year-on-year in 2020, after seeing many years of growth.

Sale of new four-wheelers in the UK also dropped 5.7 per cent year-on-year in 2020, driven by higher taxes on diesel cars due to pollution concerns.

China’s vehicle sale growth, too, looked a little jaded after similar concerns as that of the UK. Anti-dumping duty on Chinese tyres by countries such as the US and India, also affected production in China.

However, fall in international prices did not increase imports into India. Had it happened, it could have led to further crashing of domestic prices, hurting rubber growers.

According to the latest available data, total imports for April-December 2020 stood at 3, 33,301 tonnes compared with 3,60,924 tonnes during the same period a year ago — a drop of 7.6 per cent.

The fall in imports was due to certain restrictions placed on the import of natural rubber from early 2020 onwards. The Centre mandated that natural rubber be imported only through two ports — Chennai and Jawaharlal Nehru Port Trust (Navi Mumbai). This adds to the costs and delays of user industries which may not be located close to these two ports.

Also, with the levy of 25 per cent import duty on natural rubber, the differential between domestic and international prices was not wide enough to make imports attractive. With a price differential of 4-20 per cent, it would have even made imports costlier.

Higher domestic production, too, kept domestic prices under check.

The total output during the first three quarters of 2020-18 increased 4.4 per cent to 5,24,000 tonnes, from the same period a year ago. This has partly helped meet rising demand without leading to a spike in prices.

Outlook

According to the latest outlook given by the International Rubber Study Group in December 2020, world natural rubber demand is forecast to increase 2.4 per cent (over 2020) to 13.34 million tonnes in 2020. This is somewhat similar to the rise seen in 2020.

With international prices remaining unattractive due to a supply glut, major producers such as Thailand are taking measures to cut international supplies and prop up prices. According to reports available in public domain, Thailand plans to bring down annual supply by as much as 1 million tonnes to 3.3 million tonnes, before the end of 2020. Besides, Thailand, Indonesia and Malaysia — the three largest producers of natural rubber — have made an agreement to reduce exports in the first three months of 2020. They may repeat this in the coming quarters if prices don’t get the necessary boost.

These moves may buoy international prices in the months to come.

At the same time, demand for natural rubber from the top consumer, China, may fall. The proposed US tariffs on various imports from China, including tyres, may lower production in China.

Thus, even if natural rubber prices rise due to lower supply of the commodity, it may not climb sharply.

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