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training_data/curated/text/79ecde0e4cf3de6647177995d7fc26c0d83e43e5a2e228c1d99db1415f87a848.txt

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+OPTION TrAdINg STrATegIeS
+ 2. buy spot gold. The jeweler can buy spot gold and store it until August. In this case, he locks 
+in a purchase price of $1,198.90/oz plus carrying costs (interest, storage, and insurance). This 
+approach eliminates price risk, but also removes the potential of benefiting from any possible 
+price decline.
+ 3. buy gold futures. The jeweler can purchase one contract of August gold futures, thereby 
+locking in a price of $1,200/oz. The higher price of gold futures vis-à-vis spot gold reflects the 
+fact that futures embed carrying costs. Insofar as the price spread between futures and spot gold 
+will be closely related to the magnitude of carrying costs, the advantages and disadvantages of 
+this approach will be very similar to those discussed in the above strategy.
+ 4. buy an at-the-money call. Instead of purchasing spot gold or gold futures, the jeweler could 
+instead buy an August $1,200 gold futures call at a premium of $38.80/oz. The disadvantage of 
+this approach is that if prices advance the jeweler locks in a higher purchase price: $1,238.80/
+oz. However, by purchasing the call, the jeweler retains the potential for a substantially lower 
+purchase price in the event of a sharp interim price decline. Thus, if, for example, spot prices 
+declined to $1,050/oz by the time of the option expiration, the jeweler’s purchase price would 
+be reduced to $1,088.80/oz (the spot gold price plus the option premium).
+6 In effect, the pur-
+chase of the call can be viewed as a form of price risk insurance, with the cost of this insurance 
+equal to the “premium.”
+7
+ 5. buy an out-of-the-money call. As an example, the jeweler could purchase an August 
+$1,300 gold futures call at a premium of $9.10/oz. In this case, the jeweler forgoes protection 
+against moderate price advances in exchange for reducing the premium costs. Thus, the jeweler 
+assures he will have to pay no more than $1,309.10/oz. The cost of this price protection is $910 
+as opposed to the $3,880 premium for the at-the-money call. In a sense, the purchase of the 
+out-of-the-money call can be thought of as a price risk insurance policy with a “deductible.” As 
+in the case of purchasing an at-the-money call, the jeweler would retain the potential of benefit-
+ing from any interim price decline.
+As should be clear from the above discussion, options meaningfully expand the range of choices 
+open to the hedger. As was the case for speculative applications, the choice of an optimal strategy will 
+depend on the trader’s (hedger’s) individual expectations and preferences. It should be stressed that 
+this section is only intended as an introduction to the concept of using options for hedging. A compre-
+hensive review of hedging strategies would require a far more extensive discussion.
+6 T echnically speaking, since gold futures options expire before the start of the contract month, the effective 
+purchase price would be raised by the amount of carrying costs for the remaining weeks until August.
+7 The use of futures for hedging is also often described as “insurance.” However, in this context, the term is 
+misapplied. In standard application, the term insurance implies protection against a catastrophic event for a cost 
+that is small relative to the potential loss that is being insured. In using futures for hedging, the potential cost is 
+equivalent to the loss protection. For example, if the jeweler buys gold futures, he will protect himself against 
+a $10,000 increase in purchase cost if prices increase by $100/oz, but he will also realize a $10,000 loss on 
+his hedge if prices decline by $100/oz. In this sense, the use of the call for hedging comes much closer to the 
+standard concept of insurance: the magnitude of the potential loss being insured is much greater than the cost 
+of the insurance.