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Future Market Definition

buyer or seller

Originally, such was carried on through open outcry and the use of hand signals in trading pits, located in financial hubs such as New York, Chicago, and London. Throughout the 21st century, like most other markets, futures exchanges have become mostly electronic. In this scenario, Ben has made a $20,000 capital gain since his futures contracts are now worth $60,000. Ben decides to sell his futures and invest the proceeds in coffee beans (which now cost $6/lb from his local supplier), and purchases 10,000 lbs of coffee. During a futures contract’s delivery period, which lasts two to three weeks, the futures market acts like a cash market.

board of trade

This type of report is referred to as the ‘Commitments of Traders Report’, COT-Report, or simply COTR. The Initial Margin requirement is established by the Futures exchange, in contrast to other securities’ Initial Margin (which is set by the Federal Reserve in the U.S. Markets). Futures contracts may only require a deposit of a fraction of the contract amount with a broker.

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This means traders can commit a relatively small amount of capital to make large trades on an asset. This leverage is made possible thanks to what is known as a futures margin. In this guide, we take a closer look at what futures margin is all about and how it affects your trading capabilities. Futures provide a few ways to diversify your investing in ways stocks and ETFs can’t. They can give you direct market exposure to underlying commodity assets vs. secondary market products like stocks.

Benefits of Forward and Futures Markets

Producers for commodity futures and investors for financial futures participate in the markets to hedge their commercial or investment positions against adverse price movements. Traders, speculators, and hedgers are the primary users of the futures markets. Intermediaries such as introducing firms and futures commission merchants facilitate trading on futures exchanges.


There are several advantages to futures trading, including higher leverage and lower trading costs. A corporate entity can hedge prices of their raw material supply needs to lock in current prices, whereas individual investors can profit from price movements of underlying assets. Specifically, the forward prices will be based partially on current spot prices but will also take into account interest rate and inflation rate trends. The difference between the current spot price of a commodity and the forward price constitutes the ‘forward margin’. The forward margin can be at either a discount or a premium to the spot price. Forward margins for a particular commodity, such as cocoa, in different commodity markets in London, Chicago, etc., tend to be similar as a result of the buying and selling of futures contracts between these markets .

Risk of Investing in Commodity Products That Are Not Securities

Anyone who trades futures with the public or gives advice about futures trading must be registered with the National Futures Association . Before you invest in commodity futures, check to make sure the individual and firm are registered and whether they’re the subject of any disciplinary actions by using the NFA’s Background Affiliation Status Information Center . NFA also offers a number of resources for investors to learn more about how the futures market works and the risks involved.

buyer or seller

The Commodity Futures Trading Commission has fined brokers for violations of their regulations for these types of trades. Margin-equity ratio is a term used by speculators, representing the amount of their trading capital that is being held as margin at any particular time. The low margin requirements of futures results in substantial leverage of the investment. However, the exchanges require a minimum amount that varies depending on the contract and the trader. The broker may set the requirement higher, but may not set it lower. A trader, of course, can set it above that, if he does not want to be subject to margin calls.

If not, the broker has the right to close sufficient positions to meet the amount called by way of margin. After the position is closed out the client is liable for any resulting deficit in the client’s account. Quadruple witching refers to a date on which stock index futures, stock index options, stock options, and single stock futures expire simultaneously.

There are different ways of classifying market and so, based on the time of delivery, the financial market is classified as cash market and future market. Cash market, or otherwise known as spot market is one where the delivery of the underlying asset takes place immediately. The contract legally defines the terms through which an asset such as a commodity, currency, or stock, will be bought or sold. Further, it spells out a specific price with specified payment terms on a specific day in the future. Market futures contracts can be traded long or short to profit from directional moves. There are no up tick rules, which allows traders to short-sell on the inside bid prices instead of waiting to be filled on an up tick.

Futures for Speculation

Businesses use futures contracts to hedge risk, and traders may use them to place speculative bets. Think of a corn farmer who must lay out many thousands of dollars at the beginning of the planting season in hopes of selling at a profit when the harvest arrives. The farmer might use a futures contract to hedge exposure to lower prices at harvest. No matter what the actual price is when the corn is ripe, the farmer has locked in a price that guarantees a profit. You can’t predict the future, but you can try to predict — or hedge against — how much certain goods will cost when they arrive. A futures contract obligates a buyer to take delivery of a good, or commodity, on a specific date.


Day trade margins – This is basically an initial margin for a full day’s trade. This means it is the minimum amount required to day trade a contract. With day trade margin, you’re basically opening and closing your futures position within the same trading session and not carrying it forward to the next day’s trading. Another key difference is that futures margin typically represents around 3-12% of the notional value of each futures contract.

For Investors

Futures contracts are made in an attempt by producers and suppliers of commodities to avoid market volatility. These producers and suppliers negotiate contracts with an investor who agrees to take on both the risk and reward of a volatile market. However, Ben reads in the newspaper that cyclone season is coming up and this may threaten to destroy coffee plantations. Futures are settled daily , meaning that futures can be bought or sold at any time.

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There is also forward market on interest rate and the agreement reached in the forward market for interest rate is called forward rate agreement. Such agreements are entered into when traders expect an increase in demand for funds in the next 3 or 4 months. For example, futures markets in the US, are overseen by the Commodity Futures Trading Commission . Dow futures are contracts based on the Dow Jones Industrial Average. Dow futures can be used to predict short-term stock-market movements while the market is closed or to speculate on the market direction over the medium term.

This is typical for stock index futures, treasury bond futures, and futures on physical commodities when they are in supply (e.g. agricultural crops after the harvest). In this scenario, there is only one force setting the price, which is simple supply and demand for the asset in the future, as expressed by supply and demand for the futures contract. Cash settlement − a cash payment is made based on the underlying reference rate, such as a short-term interest rate index such as 90 Day T-Bills, or the closing value of a stock market index. The parties settle by paying/receiving the loss/gain related to the contract in cash when the contract expires. Cash settled futures are those that, as a practical matter, could not be settled by delivery of the referenced item—for example, it would be impossible to deliver an index. A futures contract might also opt to settle against an index based on trade in a related spot market.

Margin requirements are waived or reduced in some cases for hedgers who have physical ownership of the covered commodity or spread traders who have offsetting contracts balancing the position. A derivative is a securitized contract whose value is dependent upon one or more underlying assets. Futures can be used to hedge the price movement of the underlying asset. Here, the goal is to prevent losses from potentially unfavorable price changes rather than to speculate. Many companies that enter hedges are using—or in many cases producing—the underlying asset.

There are five key parts to every futures contract, also known as standard contract specifications. Much of investing is based on how an investor feels about the economic landscape and the ways in which that investor can profit or protect themselves. If you believe in a company’s ability to succeed, perhaps you might buy the stock or a call option. Any information posted by employees of IBKR or an affiliated company is based upon information that is believed to be reliable. However, neither IBKR nor its affiliates warrant its completeness, accuracy or adequacy. IBKR does not make any representations or warranties concerning the past or future performance of any financial instrument.

  • Gold is often bought in times of trouble because many people see it as a safe haven.
  • In this scenario, the price of coffee jumps to $6/lb due to a reduction in supply, making the transaction worth $60,000.
  • Specifically, the forward prices will be based partially on current spot prices but will also take into account interest rate and inflation rate trends.
  • Futures contracts are popular among traders, who aim to profit on price swings, as well as commercial customers who wish to hedge their risks.

The premium or discount a commands over its futures market is commonly referred to as the basis. Physical commodity merchants and cash traders find it easier to quote commodity prices in terms of basis rather than quoting fixed prices. One reason commodity merchants usually quote the basis, rather than a fixed price of a commodity, is because futures prices historically fluctuated more than the basis over a given period of time. There are minor differences in the way in which the exchanges operate and in the rules for delivery, but the overall principles are the same. One significant difference in the ways the floor operates is that in London a broker can be buyer and seller of the same lot on the floor of the exchange but on Nymex that is not allowed except under certain conditions.

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