In Simple Terms, What is Futures Trading?

To the uninitiated, futures trading may appear as though some divine inspiration is needed to be successful but the truth is it is an investment opportunity available to everybody.

futures trading

Successful futures trading requires sound knowledge and timely information, and can be done without resorting to fortune tellers. (Image sxc.hu – gravityx9)

Similar to other forms of financial trading and investment, the areas of information, knowledge, trading psychology and experience are important elements in producing a successful futures trader.

So to get started, exactly what is futures trading all about?

The futures market is extremely exciting and can return big profits because it provides the investor with a unique opportunity to use relatively small amounts of his or her own money to control large amounts of products. These products are traditionally farming related commodities, but also include gold, currencies and minerals.

How the Futures Market Works

A futures contract is a legally binding contract to deliver (if you are selling) or to take delivery (if you are buying) of a specific security, at a predetermined date and/or price.

This security can be just about anything including a commodity, index, bond, or currency. The commodity itself can vary from a standard size amount of wheat to barrels of oil.

Very rarely does delivery of the entity actually occur, as futures contracts are generally bought and sold for speculative or hedging purposes.

To illustrate how a futures contract operates in real life, consider this example of a wheat farmer. The farmer may opt to sell the futures for his crop if he thinks that the price of wheat will fall before he harvests it. He can lock in his price now rather than waiting to see what happens later.

futures trading wheat example

Both the wheat farmer and the bread manufacturer can benefit from a futures contract. (Image sxc.hu)

On the other side of the transaction may be a bread manufacturer who thinks the wheat price will go up before harvest and so decides on buying a wheat futures contract.

Regardless of what happens to the price of wheat in the interim, both the farmer and the bread manufacturer are both guaranteed a price for the wheat which they can use with confidence in their forward planning.

To conclude the example, consider a person (you or I) who invests in this trade. We (as investors) are interested in the changes to the wheat price that may occur over time so that we can buy or sell at a profit.

More on Futures Trading Contracts

The real nature of futures trading is in the relationship between the supplier and the buyer of the futures security (commodity). Sometimes during the predetermined time frame of the futures contract, the contract itself may change hands. The presence of active buyers in the market makes for a dynamic futures trading environment and underpins the profits to be made.

From an investor’s perspective, if it is believed that the price of a security is going to go up, then buying a futures contract is the obvious course of action. Conversely, a futures contract would be sold if it is believed that the price of a security is going to drop.

We have already seen some of the sorts of entities which can comprise a futures contract, such as the commonly traded grains like wheat. But there are many others, some of which are quite basic (examples being lumber, orange juice and crude oil), and others which are somewhat exotic such as coffee and precious metals including silver, platinum and gold. Each has their own futures trading market.

These markets are known as future exchanges and they operate in a similar way to the conventional stock exchange, except that the aforementioned commodities are being traded rather than stocks (or shares).

A futures exchange attempts to standardize the futures contracts being traded so that transactions can be completed quickly at contract expiry, enabling the contract seller to get funds upon which a business or enterprise may be depending.

gold futures contract

A gold futures contract can be traded alongside one for soy beans. (Image sxc.hu)

 

Whilst most investors perform their trading through an online broking account, the trading floors of futures exchanges are intriguing places to observe the daily action.

The trading takes place in pits or rings, each for a specified type of commodity.

Here, the member traders stand facing each other.

Each ring has their own designated type futures contract being traded.

It is possible to see gold futures being traded alongside those for the more mundane soy beans, but bear in mind that both securities have the potential for substantial profits.

 

Requirements for Successful Futures Trading

At the start of this article we mentioned the need for information as an essential requirement for any form of successful financial trading, and this aspect is even more important in the futures market.

This is because, as we have seen, futures contracts are often seasonal and cyclical, being linked to farming processes and the like.

We have seen no better tool for providing historical information for futures trading than an amazing product called TradeMiner.

TradeMiner (for futures trading) uses advanced algorithms and access to over thirty years of futures trading data to identify and analyze recurring trends which are the basis of being a successful trader. Have a look at TradeMiner now – if you are serious about achieving the financial freedom available in this exciting market, you will most definitely need the TradeMiner futures tool.

To your trading success.

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