June 10, 2025 – Correspondence with an AIP representative
LRP Basic Provisions for RY2026 introduce a new Section 25 – Subsidy Capture. This section enumerates trading practices that will be automatically considered subsidy capture without the need for RMA to prove that the activity is done for such purpose.
Livestock producers often combine LRP and CME options to make LRP more affordable. One such strategy is to sell an out-of-the-money call option (giving up some upside potential), and also selling out-of-the money put option (limiting LRP risk management potential to a range of prices). An AIP representative conveyed a message from an agent asking if a particular 3-way strategy would be in conflict with Section 25:
“Here is a very typical example of what we would do with LRP and other options based on today’s closing prices.
In feeders, buying 11/28/25 LRP, 292.38 coverage for $9.34 cwt. Selling FCx 262 puts for 3.075 and selling FCx 306 calls for 5.925, or combined $9.00. The Nov FC options expire on 11/20/25 so 8 days prior to the end of the LRP. The delta of this position would be -63.4 or almost 2/3 of being just short futures. So the position is substantially short and more short than just a long 292 put, or long the LRP, which would have a delta of -45. These are legit hedges, not simple LRP arbitrage.
I need clarification on this kind of strategy. In this case the short put is 89.6% within the LRP coverage so much higher than their threshold.“
Analysis:
Per section 25 of LRP BP, short puts are evaluated as follows:
(1) If you buy an SCE, and also open a new short put option on the relevant livestock futures contract, such that:
(i) The put option expiration date is within 4 calendar days of the SCE end date;
(ii) The put option is sold within 2 trading days before or 5 trading days after the SCE effective date; and
(iii) At the time you sold the put option, the option premium (per cwt) was higher than 80 percent of your SCE premium.
For violation to have occurred, all conditions have to be met at the same time.
LRP SCE parameters:
Sales Effective Date: May 30, 2025
End Date: Nov 28, 2025
Producer Premium: $9.34/cwt.
Short Put parameters:
Order Date: May 30, 2025
Expiration Date: Nov 20, 2025
Premium: 3.075
(1) Is it a new short put? Yes. “New” just means that it is not closing a previously open long put position.
(i) Is the put option expiration date within 4 calendar dates of the SCE end date? No – not a violation of Sect 25.
We can stop here. Because (i) is not met, it does not matter if (ii) and (iii) are met or not, as all three conditions have to be met at the same time for violation to have occurred.
But let’s keep going anyway…
(ii) Is the put sold within 2 trading days before or 5 trading days after the SCE effective date. Yes, the put was sold on the same day. But not sufficient to establish violation as (i) is not met.
(iii) Is the put premium higher than 80% of LRP premium? $3.075 / $9.34 = 32.9%. No. This is a common confusion: often agents or commodity brokers would compare option strike to LRP coverage level. That is not a relevant information – what matters is the ratio of CME put option premium to LRP producer premium (i.e. premium after subsidy). If that ratio is lower than 80%, then Sec 25(a)(1)(iii) is not met, and Sec 25 cannot be used to presume subsidy capture for that short put.
Now let’s consider the short call leg of the strategy. The language in Basic Provision in Sec 25(a)(2)(iv) reads:
(iv) At the time you sold the call option subject to the time period in section 25(a)(2)(ii), you also opened a new long position in the
underlying futures contract, such that these 2 positions jointly created a payoff schedule equivalent to selling a put option.
The purpose of Sec 25(a)(2) is to prevent strategies designed to circumvent 25(a)(1). Payoff to short call + long futures position is equivalent to the payoff of the short put position. In this case, the producer did not buy a November feeder cattle option, so the short call on its own is not in violation of Sec 25.