What it means
Options contracts have expiry dates. If a trader still likes a position when it is close to expiring, she can close the current contract and open a new one with the same strike but a later date.
This is called rolling forward, and it buys more time for the view to play out. The roll has a cost or a credit depending on the prices of the two contracts.
The later contract is normally worth more because it has more time value, so a buyer usually pays extra to roll forward, while a seller of options may receive extra. Traders also pay commissions and spreads on both legs of the trade.
Rolling forward is common for covered call writers, hedgers and investors who use options to protect a portfolio. A company hedging currency exposure might roll a forward contract to a later date if a customer payment is delayed.
It keeps the protection in place without leaving a gap. In accounting, a roll-forward schedule shows how a balance changed during a period.
It begins with the opening balance, adds increases, subtracts decreases and arrives at the closing balance. Auditors like these schedules because they prove that the balance sheet figure can be traced to the transactions that produced it.
In planning, a rolling forecast adds a new period each time one ends, so the business always looks ahead the same number of months, for example 12. This keeps forecasts current and encourages managers to think beyond the financial year-end.
The nuance is that a roll forward can postpone a problem rather than fix it, and repeated rolling of a losing position can hide losses.
In practice
Real-world examples.
Example
An income investor holds shares and has sold a call that is about to expire. She rolls forward to next month, receiving a small net credit and keeping the shares, and she repeats the process each month as long as she is happy to hold the stock.
Example
A company's accountant prepares a roll-forward schedule for property, plant and equipment. It reconciles opening balances to closing balances and is provided to the auditors at year-end. Any difference between the schedule and the ledger is investigated before the accounts are signed.
Example
A retail chain uses a rolling 12-month forecast. At the end of each month, the finance team adds a new month to the end so the outlook always covers a full year. Managers say the habit keeps them from treating the year-end as the edge of the world.
Formula
Calculation
Closing Balance = Opening Balance + Additions - Disposals (or Reductions)
Net credit or debit on an option roll = Premium received on new option - Cost to buy back old option
Worked example (accounting): A company's equipment account opens the year at $500,000. It buys $120,000 of new machines and sells machines with a cost of $80,000.
Closing balance = $500,000 + $120,000 - $80,000 = $540,000
Worked example (options): An investor is short a $50 call expiring this month. It would cost $2.80 per share to buy back. She sells a $50 call expiring next month for $3.10 per share.
Net credit = $3.10 - $2.80 = $0.30 per share, so $0.30 x 100 = $30 for the contract.Case study
Seen in the real world.
Westmoor Textiles is a fictional exporter that hedged a customer payment of 2,000,000 foreign currency units with a forward contract due in March. In this illustrative case, the customer asked to delay payment by two months because of a shipping delay.
The treasurer rolled the hedge forward to May by closing the March contract and opening a new one. The forward points (the interest rate difference between the currencies) cost an extra $8,000, which the finance team recorded as a hedging cost.
She also updated the cash forecast and the roll-forward schedule for receivables. Auditors later confirmed that the hedge had been documented and that the extra cost had been properly accounted for, so the company avoided leaving the payment unprotected. The treasurer added a rule that any customer delay over 30 days must trigger a review of related hedges.
Watch out
Common mistakes.
- Rolling a losing option position without a plan. Repeatedly postponing a loss can compound it.
- Forgetting the cost of the roll. Spreads, commissions and the price difference between contracts all matter.
- Leaving out a reconciling item in a roll-forward schedule. If the schedule does not agree to the balance sheet, something is missing.
Questions
People also ask.
What is a roll-forward schedule?
It is a table showing the opening balance, movements during the period and the closing balance for an account.
What is a rolling forecast?
It is a forecast that is updated regularly by adding a new period at the end, keeping the horizon constant.
When should I roll an option forward?
When you still believe in the position and want more time, and the extra cost or credit is acceptable. Many investors set rules in advance.
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