IYKYK: Why Coffee Traders are Scared of Options (and Why you Need to Understand Them)

Its no secret that many roasters and traders are scared of options. Over the last decade, my key function in the coffee industry has been to manage risk (and teach risk management) in the coffee market.

Options are hands down one of the most valuable tools available for this purpose, and yet I have seen the same scene many times when discussing options with clients, colleagues and friends: a worried look and a grimace, followed by a quiet “oh, as a rule…we don’t trade options.” 

Rules like this don’t come out of nowhere, they are born out of bad experiences. Someone, somewhere made a bad trade, either not understanding the risk, or discounting the risk and lost money. The powers that be then make a rule: don’t trade options. 

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However, the reason that people get in trouble with options is exactly what makes them valuable: asymmetric risk. 

Asymmetry is just a fancy word for “not the same”, so asymmetric risk is bilateral risk that is different on either side. Let’s contrast this with symmetric risk. Owning a future has symmetric risk. If the market goes up 10c I make 10c, if the market goes down 10c, I lose 10c. Symmetry. 

An option by contrast has asymmetric risk. If I buy a call and the market goes up 10c I might make 10c (depending on the strike and timing), but if the market goes down 10c I might only lose 3c (depending on the premium and timing). The risks are asymmetric. 

This asymmetric risk can serve you very well and in our daily lives we use asymmetric risk all the time. Insurance is one example of asymmetric risk. We pay small amounts regularly to protect ourselves against potential large expenses. That is just prudent management of risk and not difficult to understand. 

Buying options are very similar to buying insurance and if you want to manage risk in your business, options are how you buy insurance for the price of coffee. 

Yet in reality, most buyers of insurance don’t become rich. It is the insurance companies (those selling options) that are some of the most steady and profitable companies there are.

The insurance companies make money by being experts in a field (auto industry for example) and then selling insurance to many customers which diversifies their risk. 

In the same way, many coffee companies sell options (in small quantities across diverse scenarios) to add steady revenue streams to their business. 

This is just the tip of the iceberg. 

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With even a basic understanding of options, traders, roasters, exporters, and importers can use option strategies to: 

• Protect their business from extreme scenarios such as frost, drought, or supply shocks 

• Improve buying and selling levels 

• Generate additional revenue streams 

• Reduce margin call exposure 

• Add flexibility to procurement and sales programs 

On top of all of this, just an understanding of options has real value as well. 

Even if you never trade a single option, understanding option theory can improve your trading decision-making and market understanding. 

For example, option prices are heavily influenced by time and volatility.

Understanding how those variables affect an option's value can help you think more clearly about the risks and opportunities involved in buying futures today versus waiting to buy later. 

In other words, options don't just teach you how to trade options. 

They teach you how to think about risk. 

Every major participant in today's coffee market: trade houses, exporters, importers, roasters, and hedge funds, either uses options directly or has a deep understanding of them. 

I won’t lie to you, a deep understanding of options takes time and experience to develop.  

You won't become an expert from one article, one video, or one course. 

But you do have to start somewhere. 

As the proverb says, the best time to plant a fruit tree was ten years ago. The second-best time is today. 

If you want to deepen your understanding of options, now is the time. 

[Registration for Coffee Trading Academy's Coffee Options Course is now open]

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Early-bird pricing is currently available until Jun 15th.