Heating Oil Futures and Heating Oil Options Market

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Dear clients and students of the commodity markets, the following information should answer all of your questions about Heating Oil Futures and Options. You may also call 800-915-4716 or email tkfutures@earthlink.net  your heating oil future and heating oil options questions to be answered by a seasoned professional.

The History of Heating Oil and Heating Oil Futures Market

The market for heating oil, also known as No. 2 fuel oil, grew rapidly after World War II, as homeowners and builders switched from coal. Heating oil very similar in chemical makeup to diesel fuel.

With the lifting of U.S. price controls on heating oil in the mid 1970's, the New York Mercantile Exchange (NYMEX) began developing a heating oil futures contract and, in 1978, introduced the world's first successful energy futures contract. Most of the heating oil consumed in the US is used in the Northeast.

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Heating Oil accounts for almost 25% of the yield of a barrel of crude, the second largest "cut" of the barrel after gasoline. Heating oil futures has become one of the premiere distillate contracts in future trading. During the September terrorist attacks on the World Trade Center the NYMEX was destroyed but within 3 days the heating oil futures and heating oil options contracts were being traded again. This is a testament to the strength and viability of the energy future markets.

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NYMEX Division heating oil futures contract mainly attracted wholesalers and large consumers of heating oil in the New York Harbor area. Soon, its use spread to geographical areas outside of New York and it came apparent that the contract was also being used to hedge diesel fuel, which is chemically similar to heating oil, and jet fuel, which trades in the cash market at a usually stable premium to NYMEX Division heating oil futures.

Today, a wide variety of businesses, including oil refiners, wholesale marketers, heating oil retailers, trucking companies, airlines, and marine transport operators, as well as other major consumers of fuel oil, have embraced this heating oil futures contract as a risk management vehicle and pricing mechanism.

Who Uses the NYMEX Division Heating Oil Futures Contract?

The NYMEX Division heating oil futures contract can help most sectors of the oil industry -- refiners, wholesales marketers, and retailers ---take advantage of market opportunities or meet the challenges presented by ever-changing conditions in the physical market.

Full-service fuel oil distributors are active users of the heating oil futures and heating oil options contracts. Typically, a full-service dealer will protect a portion of his winter delivery commitments through the purchase of Exchange-traded heating oil futures and options. This enables a fuel oil dealer to offer a "guaranteed" delivery price, where customers are assured a set price for their annual consumption of fuel prior to the beginning of the winter season. The fuel oil dealer hedges these guaranteed price agreements by purchasing Exchange heating oil futures or heating oil options contracts, or by purchasing a wholesale supply deal which ties terminal cash prices to Exchange heating oil futures prices.

Wholesalers also use the NYMEX Division heating oil futures and heating oil options contracts to protect physical inventories and to hedge forward purchases of barge or pipeline supply.

Large commercial users of heating oil and transportation fuels use the NYMEX Division heating oil futures contract to hedge against increases in the cost of diesel fuel, jet fuel, and No. 2 fuel oil. Outside of the oil industry, a wide variety of businesses, including trucking companies, airlines, marine transport operators, and other major consumers have embraced the heating oil futures contract as a risk management vehicle for pricing, budgeting, and hedging distillate fuel.

Traders can also use the NYMEX Division heating oil futures and gasoline futures contracts in tandem with crude oil futures to lock in the "crack spread" or theoretical refining margin.

 As a protection of falling cash market prices, producers, traders, and marketers can sell heating oil futures to lock in prices for future delivery, and thus, protect the value of future heating oil sales.

Since NYMEX Division heating oil futures and heating oil options are traded over 18 consecutive months, traders can implement hedging strategies that encompass two winter heating seasons.

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Options Defined

The NYMEX Division heating oil options contract, introduced in 1987, complements the heating oil futures contract and provides yet another hedging instrument for market participants to increase their flexibility in managing their business risk.

Heating oil options can be used independently or with heating oil futures to create hedging strategies to fit any risk profile or cost consideration.

The holder of a heating oil option has the right, but not the obligation, to buy or sell a heating oil futures contract at a specified price at a specified time, in exchange for a one time payment, or premium. The seller of a heating oil option, on the other hand, has an option to buy or sell a heating oil futures contract, if a holder of an option chooses to exercise it.

There are two types of options: calls and puts. A call gives the holder the right, but not the obligation, to buy heating oil futures at a specific price (the strike or exercise price) for a specific period of time. A put gives the holder the right, but not the obligation, to sell heating oil futures a specific price for a specific period of time.

Buying a call or put is similar to purchasing an insurance policy: in return for a one-time up premium, the buyer obtains protection against the occurrence of risk for the designated time period. To protect against the risk of a heating oil futures price increase, a hedger would purchase a call; to protect against a heating oil futures price decrease, a put.

If prices do not move in an adverse direction, the heating oil options buyer forfeits only his premium and is otherwise able to participate fully in any favorable heating oil futures price move.

A heating oil options seller (or writer) performs a function similar to that of an insurance company. He collects the premium and is obligated to perform, should the buyer exercise the heating oil option. If the heating oil options contract expires without being exercised, the option seller profits by the amount of the premium.

Disposing of Options

Unlike heating oil futures, which must either be liquidated or held to delivery, the holder of a heating oil option has a third alternative: if the heating oil futures price does not move enough to make exercising the option worthwhile, or moves in the opposite direction, the buyer can choose to allow his option to expire without value.

NYMEX Division Heating Oil Futures and Options

Contract Specifications

Trading Unit
Heating Oil Futures: 42,000 U.S. gallons (1,000 barrels).
Heating Oil Options: One NYMEX Division heating oil futures contract.

Price Quotation
Heating Oil Futures and Options: In dollars and cents per gallon: for example, $0.7527 (75.27¢) per gallon.

Trading Hours
Heating Oil Futures and Options: Open outcry trading is conducted from 10:05 A.M. until 2:30 P.M.

After hours heating oil futures trading are conducted via the NYMEX ACCESS® internet-based trading platform beginning at 3:15 P.M. on Mondays through Thursdays and concluding at 9:30 A.M. the following day. On Sundays, the session begins at 7:00 P.M. All times are New York time.

Trading Months
Heating Oil Futures: Trading is conducted in 18 consecutive months commencing with the next calendar month (for example, on January 2, 2002, trading occurs in all months from February 2002 through July 2003).

Heating Oil Options: 18 consecutive months.

Minimum Price Fluctuation
Heating Oil Futures and Options: $0.0001 (0.01¢) per gallon ($4.20 per contract).

Maximum Daily Price Fluctuation
Heating Oil Futures: $0.25 per gallon ($10,500 per contract) for all months.

Heating Oil Options: No price limits.

Last Trading Day
Heating Oil Futures: Trading terminates at the close of business on the last business day of the month proceeding the delivery month.

Options: Trading ends three business days before the underlying futures contract.

Exercise of Options
By a clearing member to the Exchange clearinghouse not later than 5:30 P.M., or 45 minutes after the underlying heating oil futures settlement price is posted, whichever is later, on any day up to and including the option's expiration.

Options Strike Prices
Twenty strike prices in one-cent-per-gallon increments above and below the at-the-money strike price, and the next ten strike prices in five-cent increments above the highest and below the lowest existing strike prices for a total of at 61 strike prices. The at-the-money strike price is the nearest to the previous day's close of the underlying heating oil futures contract. Strike price boundaries are adjusted according to the futures price movements.

Margin Requirements
Margins are required for open futures or short options positions. The margin requirement for an options purchaser will never exceed the premium.

Trading Symbols
Futures: HO

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