Futures

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DEFINITION of 'Futures'

A financial contract obligating the buyer to purchase an asset (or the seller to sell an asset), such as a physical commodity or a financial instrument, at a predetermined future date and price. Futures contracts detail the quality and quantity of the underlying asset; they are standardized to facilitate trading on a futures exchange. Some futures contracts may call for physical delivery of the asset, while others are settled in cash. The futures markets are characterized by the ability to use very high leverage relative to stock markets.

Futures can be used either to hedge or to speculate on the price movement of the underlying asset. For example, a producer of corn could use futures to lock in a certain price and reduce risk (hedge). On the other hand, anybody could speculate on the price movement of corn by going long or short using futures.

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BREAKING DOWN 'Futures'

The primary difference between options and futures is that options give the holder the right to buy or sell the underlying asset at expiration, while the holder of a futures contract is obligated to fulfill the terms of his/her contract.

In real life, the actual delivery rate of the underlying goods specified in futures contracts is very low. This is a result of the fact that the hedging or speculating benefits of the contracts can be had largely without actually holding the contract until expiry and delivering the good(s). For example, if you were long in a futures contract, you could go short in the same type of contract to offset your position. This serves to exit your position, much like selling a stock in the equity markets would close a trade.

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RELATED FAQS
  1. How can electricity be traded as a commodity by an individual investor?

    Electricity can be traded in the financial marketplace like any other commodity. Electricity futures trading offers an alternative ... Read Full Answer >>
  2. How are commodity spot prices different than futures prices?

    Commodity spot prices and futures prices are different quotes for different types of contracts. The spot price is the current ... Read Full Answer >>
  3. How do commodity spot prices indicate future price movements?

    Commodity spot prices indicate future price movements because commodity futures prices are calculated using spot prices. ... Read Full Answer >>
  4. What kinds of derivatives are traded on an exchange?

    There are many different types of derivatives traded on exchanges including options, futures, swaps and forward contracts. ... Read Full Answer >>
  5. What is the difference between notional value and market value?

    The notional value and market value describe the amount of a security. The notional value is the total value of options, ... Read Full Answer >>
  6. How can I trade in foreign futures?

    Trading in foreign futures takes place much like trading in domestic futures, except that transactions occur on specifically ... Read Full Answer >>
  7. What types of items can you buy futures for?

    When buying a future for an item, you enter into a futures contract. This financial contract obligates a buyer to secure ... Read Full Answer >>
  8. Why do futures' prices converge upon spot prices during the delivery month?

    It's a fairly safe bet that as the delivery month of a futures contract approaches, the future's price will generally inch ... Read Full Answer >>

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