What are Futures?

Get Rich with Trading Futures

A futures contract is a contract between two parties to buy or sell an asset (e.g. commodity, stock index, currency, bond) at a specified future date at a price agreed today.

It is called a contract as a buyer of the contract has the obligation to take delivery of the asset under the terms of the contract. The seller of the contract has to deliver the underlying asset to the buyer. This will happen on the specified future date in the contract.

Traditional Use of Futures

Traditionally, futures contracts are traded by people with an interest in the underlying commodity. They do this to guarantee profits or to protect against potential rising costs.

For example, the current price of grain is $188.59.

With good weather outlook, a grain farmer might sell a futures contract to guarantee that he receives a certain $188.59 for his grain 3 months down the road. He believes that the price might fall when there is plentiful crop 3 months later. 3 months later, the price of grain falls to $150.00. However, the grain farmer is able to deliver the harvested grain at $188.59 under the futures contact.

With poor weather outlook, a livestock farmer might buy a futures contract to guarantee that he can buy his winter feed supply at a certain $188.59 3 months down the road. He believes that the price will rise due to feed supply shortages. 3 months later, the price of gain rises to $200.00. However, the livestock farmer is able to buy cheaper winter feed supply at $188.59 under the futures contract.

Modern Use of Futures

As we are trading futures contracts to make a profit on the difference between the buying price and the selling price, we will not want to own the underlying asset.

We will then need to know when the current futures contract will expire and make sure that we do not have any open positions at that time.

Why Trade Futures

There are many advantages in trading futures that are not found in trading stocks:

1. There are no interest charges as there are when long of stocks and no dividends to pay as when short of stocks.

2. It requires much less work to keep up with price charts in the index, bond, commodity and currency futures versus the great amount of work to keep up with all the stocks in the stock market (i.e. related company news, company annual / quarterly earnings reports and price charts).

3. Large traders cannot manipulate futures price as they can to a stock.

4. The positions of large traders are published every week in the Commitment of Trader’s Report by the U.S. Commodity Futures Trading Commission. With this information, you can position yourself with the “Big Boys” and not against them.

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