How a Fence Is Built
Say corn is trading near a level where you would like protection but premiums feel rich. You buy a put with a strike below the market to establish your floor, and at the same time sell a call with a strike above the market. The premium you collect on the call offsets some or all of the premium you pay for the put.
Your outcome is bounded on both sides. Below the put strike you are protected; above the call strike your grain is effectively priced at the cap. In between, you sell cash grain at whatever the market gives you, minus the net premium.
Strike selection is where the strategy lives or dies. A wider fence, with the put lower and the call higher, leaves more room to participate but protects less. A tight fence locks in a narrow range that behaves almost like a forward sale with premium. Most producers set the put strike near a price that covers costs and the call strike near a price they would happily sell at anyway.
What the Fence Costs
The appeal of the fence is cost. Depending on the strikes and volatility, the net premium can be small or even near zero. But cheap is not free. The sold call is a real obligation: if the market rallies through your call strike, the short call loses money and your broker will require margin to hold it. One corn contract covers 5,000 bushels, so a rally of fifty cents means a $2,500 move per contract against the short call.
The floor is also lower than the put strike by the net premium and your basis, so know your true floor before you put the trade on.
Risks to Respect
The fence is a sound hedging tool, but the short call side is where producers get hurt. A sharp rally during a drought scare can generate margin calls at exactly the moment you are busiest. Some farmers manage this by buying an additional cheap call further out of the money to cap the risk on the sold call, turning the position into a three-way spread.
Also remember that the fence hedges futures, not basis. A weakening basis at harvest can still hurt even when the option structure performs exactly as designed.
Futures and options trading involves substantial risk of loss and is not suitable for all investors.