Basic Trading course

What are Futures?

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You’ve heard about Futures but what are they? 

 

A futures contract is a legal binding agreement to buy or sell a certain commodity, or security at a predetermined price at a specific time in the future. The buyer of a futures contract is taking on the obligation to buy and take ownership of the underlying asset when the futures contract expires. On the other hand the seller of the futures contract is obligated to provide and deliver the asset at the expiration date.    

 

Futures are a derivative of financial contracts that obligate the parties to transact an asset at a predetermined future date and price.. Sometimes the asset is a physical commodity such as gold ( Futures symbol GC) or Oil ( Futures symbol CL). Other times a futures contract represents a financial instrument such as an interest rate or an index such as the S&P 500 ( Futures symbol ES )  

 

Many times futures contracts are used to hedge a position. The futures market is mainly broken into two categories, hedgers and speculators.. Speculators can range from retail trades such as yourself or big banks and trading firms. Hedgers are normally producers and or purchasers who are looking at buying the underlying asset. 

Examples: 

 

If you are a farmer looking to sell your corn you could possibly end up using a futures contract to facilitate the transaction. This is so that the farmer can lock in a price at which he/she thinks is fair in their allotted time frame. The buyer could be a large food producer looking to lock in a fair price. On the other hand we have the speculator/trader who is looking at the current price and how to benefit from its fluctuation. 

 

Each contract represents a certain amount of the underlying asset. These are called standardized contracts. Take oil for example , a single CL contract trading on the CME ( Chicago Mercantile Exchange represents 1000 barrels of oil. If a buyer wanted to lock in the price for 5000 barrels of oil they would need to buy 5 CL contracts. This goes for sellers as well, if a sell wanted to get rid of 5000 barrels of oil they would need to sell 5 contracts.    

 

The Futures markets are regulated and overseen by the CFTC or Commodity Futures Trading Commission. The CTFC was created by congress in 1974 and is a federal agency dedicated to keeping the futures markets fair,regulating brokers and preventing fraud.  

 

Trading:

  

Many retail traders and speculators are not interested in receiving the underlying asset. This is where traders look to profit on the fluctuation in price either up and or down.  All futures contracts can be traded with the only intention of securing a profit as long as the trade is closed or rolled over before the end of expiration. Many futures contracts expire on the third Friday of the month, but contracts do vary so check the contract specifications of any and all contracts before trading them. 

 

If a trader decides to buy the June CL oil contract currently at $15.27 one CL contract would mean the trader controls 1000 barrels of oil. Now if the trade moves up to $16.00 and is closed out, the trader would have made 730.00 before fees and commissions.