An exchange traded commodity option is an option on the underlying commodity futures contract, and by using a combination of futures and options the majority of risk scenarios can be hedged – but there will always be occasions when the underlying risk is just not manageable with exchange traded products, which is one of the reasons why the OTC markets exist.

An option contract remains the only derivative instrument that allows the buyer (holder) to ‘walk away’ from the transaction. With energy options, when the option is exercised, it results in the holder being long or short on an energy futures contract, which is then usually cash settled. In effect, the holder of one call option on the energy future will, on exercise, ...

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