utures and options allow a variety of trading strategies. Traders can use them F singly or in combinations to hedge spot positions, speculate on price movements, or establish indirect investments in underlying assets. To price futures and options, it is easiest to avoid trading motives and concentrate on arbitrage possibilities among different types of contracts. This approach allows one to specify pricing relationships that must hold in markets in which informed traders can capture transient profit opportunities.
We use the arbitrage method to analyze a new type of speculative contract: the futures contract option.
There are several futures options traded today. We will refer to these conventional futures options, discussed by Black (1976), as futures price options. In a futures price option, the striking price is a fixed level of the futures price. A futures price call option is in the money when the current futures price exceeds the option's striking price.
We do not discuss futures price options in this article since their relationship with a futures contract is indirect. An article by Wolf (1982) gives a comprehensive presentation of futures price options and an article by Asay (1982) proposes a streamlined settlement method for these contracts.
A futures contract option is written in terms of a futures contract's value. Its striking price is defined in terms of a daily futures price difference. A futures contract call option is therefore in the money when an increase in the futures price during the day exceeds its striking price. It is a true option in terms of a futures contract written at a day's open.
Although futures contract options are not traded now, these contracts have some interesting properties. For example, both positive and negative striking prices can be used for puts and calls. In addition, the option can substitute (with a broker's concurrence) for margin if investors prefer the futures-margin-option cash flow to the futures-margin cash flow. A broker's position is covered either way. In the analy-