WHAT IS 'On Track'

On track is a type of commodity delivery for futures contracts that is deferred and priced according to the seller's location. It also refers to a physical commodity that is loaded on railroad cars or trucks and ready for delivery.

BREAKING DOWN 'On Track'

In an on track delivery contract, the buyer of the futures contract is agreeing to pay all associated freight costs for receiving the underlying commodity. Commodities on track are ready to be transported to the necessary locations for the fulfillment of the contract obligations.

On track and commodity deliveries

Futures exchanges work with industry to develop standardized quantities, qualities, sizes, grades and locations for delivery of a physical commodity. The delivery mechanism differs for each commodity, and all exchanges have detailed information about the process available on their websites. Because commodities have different characteristics, the delivery process often includes premiums and discounts for varying grades and distribution points for specific raw materials. The exchange designates warehouse and delivery locations for many commodities. The exchange also sets the rules and regulations for the delivery period which can vary depending upon the particular product. When delivery takes place, a warrant or bearer receipt that represents a certain quantity and quality of a commodity in a specific location changes hands from the seller to the buyer upon which time full value payment occurs. The buyer has the right to remove the commodity from the warehouse at their option. Often, a purchaser will leave the raw material product at the storage location and pay a periodic storage fee.

The ability to deliver or take delivery provides the critical link between the instrument and the commodity. Delivery is one of the primary reasons that futures prices converge with underlying physical commodities prices over time. Over the life of a futures contract, the price differential between the derivative and underlying physical market can vary. For example, the price of a December corn futures contract can vary widely from the price of corn at a delivery location in October or November. However, as the December delivery date approaches the two prices tend to converge. Not all commodity futures have a delivery mechanism; some are cash settled on the last trading or expiration day of the contract. Those futures that are cash-settled tend to use a benchmark for pricing such as an industry accepted pricing mechanism or the final settlement price on the last day of trading in the instrument.

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