Deep OTM Put offers Theta benefits on PRBS of AUD/NZD

Fonterra cut its forecast dairy payout for the 2014/2015 season from to per kilo of milk solids.

But its opening forecast of for the 2015/16 season was higher than consensus (of around ). Fonterra cited improved long-term global dairy supply and demand.

Block the downside risks of AUD/NZD hedging through deploying deep Out-Of-The-Money instrument in Put Ratio Back Spread:

For the simple reason of time decay it is advisable that for long option position, theta is negative and for short position, theta is positive. Because time decay is terrible for option holder, perfect for a writer.

Here the rationale is that even though we are buying 2 put options theta still gives negative, only for the reason being deeper OTM options deployed in our strategy (2:1).

Well, hedgers, the strategy goes this way, purchase puts (OTM with little extended bracket) and sell fewer puts of a higher strike (ATM or ITM) usually in a ratio of 2:1, 3:2 or 3:2.

This is more attractive and quite unusual strategy. Basically, you're selling an In-The-Money short put spread in order to help pay for the extra out-of-the-money long put.

The higher strike short puts finances the purchase of the greater number of long puts and the position is entered for no cost or a net credit.

The underlying exchange rate has to make substantial move on the downside for the gains in long puts to overcome the losses in the short puts as the maximum loss is at the long strike.

Give it an adequate time to expiration so as to make a substantial move on the downside.