If you are a savvy financial player, you must be aware of how futures trading functions, but people who do not have enough knowledge about the financial markets, might not be aware of what futures are and how they function.
This blog is dedicated to giving you an idea about what futures are, their basic features, and the way they function in the trading markets. Let’s begin!
What Are Futures?
The practice of investing in this trading market has long existed in the financial markets but not many people are aware of what they actually are. This is actually a type of trading that is found in a variety of markets including the stock market and the commodity markets.
To be more specific, it is an agreement between two parties to buy or sell a product at a predetermined future date. From commodities like Coffee and Soybean to digital assets and stocks, thousands of products and services are being exchanged following the Futures agreements.
Futures work on an exchange policy where one party agrees to buy a given number of securities on a predefined date and price and the second party agrees to deliver the security at the decided time.
The Futures market is being used by several financial players including, companies, investors, and speculators. A variety of products are being traded in these markets, investors even make these agreements for oil and jet fuel.
How Do Futures Work?
The ultimate aim of Futures is, to secure the traders from the price swings that take place over time. To understand how Futures Trading is made, let’s take the example of Airline fuel.
An airline company that wants to lock the fuel prices for a longer-term in order to secure the company from future price hikes, will agree on Futures promising to buy a specific quantity of oil till a specific time period.
When it comes to the sellers of such contracts, he will make sure to have a steady market for then fuel thus agrees on a contract to keep the demand for fuel static. This agreement will also secure him against any unexpected price declines.
To finalize the contract, both the buyer and the seller will agree on a specific quantity of fuel, to be delivered on a specific date at a predetermined price.
In the above example, both the seller and the buyer are hedgers, but in the real marketplaces, futures are exchanged among companies to manage exposure to the risk of increasing and declining prices.
The other way investors use the futures is, to make profits. Some investors use them to make more profits. For example, if an airline company is in a futures contract and the prices of fuel surge in the near future, the airline company may sell this contract to a third party in order to earn more profits.
Such futures contracts are made with only the intention to earn more profits. Their aim never is to deliver the products at the determined time; rather they get into the contract to sell the contract at a higher price.
So, the Futures have a liquid market as investors, hedgers and speculators are lively participating in the trading.
Futures Contracts For Cryptocurrencies
The futures market is mainly popular for the commodity exchanges but with the rapidly evolving financial markets, investors are actively participating in crypto futures.
This trading market is now not only limited to trading corns, Soyabeans, oil, and hogs, from ETFs to bonds and bitcoin the market has expanded a lot.
The basic reason why most investors participate in this type of trading is, the chance of getting a substantial position on investment is higher. It also provides them with greater potential for leverage than just owning the securities.
The investors trading in the crypto markets is getting into such contracts believing the price of these digital assets to rise in the future. As the prices surge, the investor will sell the contract at a higher price making enough profits out of it.
While getting into such contracts, the investors define certain parameters. These include:
- A measurement unit will be identified
- Points about how the contract will end – upon delivering goods and settling cash payments.
- The number of goods will also be identified.
- The unit of currency.
- And last, the quality-related details.
You may also want to read about: Importance Of Credit In The Financial World
The Takeaway
If you are planning to start trading in this particular financial market, identify your goals first. If you are trading with an aim to earn some extra bucks on your investments your obligations towards the contract might be different from when you are getting into the contract to get commodities.
Also, make sure you have settled all the parameters for how the contract will begin and settle. Considering the high-risk factor is also crucial.
